Options Traders Head for the Exits as Expiration Day Approaches

Plus, a play on the Global Crossing-Frontier deal.
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Get ready, there's a train coming. It's called August options expiration, and it's coming to your town Friday.

It's bad enough that open interest exploded in some bellwether technology stocks Tuesday, but "people are closing out stuff all over the place," said Scott Fullman of

Swiss American Securities

. "This is a bad time of year moving into September; people get nervous, and they're facing seasonality and Y2K."

Sizable orders in

Micron Technology

(MU) - Get Report

,

Oracle

(ORCL) - Get Report

and

Dell

(DELL) - Get Report

crossed early in the session.

Roughly 2,500 Micron September 65 puts changed hands on the

Chicago Board Options Exchange

and 2,700 traded on the

Pacific Stock Exchange

, at 11 1/4 ($1,125), up 3 3/8 ($337.50). With open interest of 2,422 contracts, much of that volume could exemplify bears cashing out as Micron's shares fell 4 3/16 to 56 3/8.

Brave New Frontier

Now it's time to tackle what's been happening with the arbitrage trading in

Global Crossing

(GBLX)

and

Frontier

(FRO) - Get Report

options.

Independent options analyst Larry McMillan, author of

Options as a Strategic Investment

(Prentice Hall Trade, 1992) and head of

McMillan Analysis

, says individual traders generally can't compete with professionals in the risk-arbitrage business. The pros have better information and pay little in commissions. But "there is room for a potential profit for even the little guy" in the Frontier-Global Crossing deal, McMillan adds.

The proposed deal has grown more complicated since Global Crossing's stock has fallen, and there is some uncertainty as to whether the deal will actually be completed in its present form. Those uncertainties, McMillan points out, represent the risk in playing this deal.

In its current form, the deal is this: Global Crossing will acquire Frontier for $63 a share in Global stock, assuming certain conditions. At the time of the bid, Global was trading at about 50. As long as Global stock stays between 34 9/16 and 56 25/32, Frontier will get that tasty $63 a share. Pretty straightforward.

Here's where it gets dicey. If Global Crossing stock drops below or leaps above those limits, then only a fixed amount of stock will be issued to Frontier. (At midday Tuesday, Global Crossing was unchanged at 32 5/16 and Frontier was up 1 1/4 at 48 5/8.)

With Global Crossing shares trading below the lower limit, Frontier holders will get 1.82 Global Crossing shares for each Frontier share. If Global Crossing shares rise above the upper limit set out in the deal, Frontier holders will receive 1.11 Global shares for each Frontier share.

This set of parameters is known as a collar. That's different, by the way, than the strategy of writing calls and buying puts, which is also known as a collar.

If Global shares keep falling, Frontier holders might well vote against the deal. Shareholder votes are set for Sept. 22-23.

Given all that info, here's what McMillan is recommending. (It's a position with a lot of risk, so "it would be understandable if you choose not to establish it," he says.) Buy seven Global Crossing September 35 puts and buy four Frontier September 35 calls. If the deal is delayed, the September options might expire before the stocks move "into line" with one another; if the deal closes on time, it would be near the end of September as currently scheduled.

Assuming that happens, the Global puts would expire worthless, but Frontier stock would be trading near 63.

If Global's stock is still below the collar at expiration, however, then Frontier should be trading at around 1.82 times the price of Global Crossing stock. For example, if Global were at 25, then Frontier should be trading at near 45 just before the deal closes (1.82 times 25 equals 45.50). Global Crossing September 35 puts would be in the money, as would Frontier's September 35.