Stumping Options' Predictive Power

Rumors of Compaq deal complicate sifting out the news in stock's run-up.
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Options can have incredible predictive power, but sometimes it's hard to tell exactly what they're predicting.

In the case of

Compaq

(CPQ)

, the company-on-the-rebound is set to report earnings

Tuesday, and the stock has jacked up in advance of that news.

But there was other chatter behind the stock's move in the last trading day: rumors that

Hewlett-Packard

(HWP)

was interested in buying Compaq.

A market maker on the

Pacific Exchange

confirmed he'd heard the rumor Friday, and says of the rumored buyout, pretty much without missing a beat: "I can't see it. Earnings come out Tuesday, and that's pretty much been the reason the stock and the volatility have been going straight up for the last 10 days."

In other words, the stock had been moving well in advance of the takeover rumors, and investors hungry for Compaq February-dated call options came out in "massive" numbers Monday, a day ahead of the earnings.

Compaq shares were up 1 15/16 to 33 3/16, and the most-sought options were call options. Compaq declined to comment, and H-P didn't immediately return a phone call regarding the merger rumor.

Just for the record, a call option is a contract between buyer and seller that gives the buyer, or owner, the right to buy stock (usually 100 shares) at an agreed-upon time (expiration) and price (or strike) in the future. Many times, call buyers use these options as a less expensive way to speculate on a stock, particularly if it's on the move.

Among the more popular means of speculating Monday were February 35 calls, up 9/16 ($56.25) to 2 3/16 ($218.75). Also, February 37 1/2 and 40 calls racked up more buyers, with prices up 1/4 ($25) to 1 1/4 ($125) and 3/16 ($18.75) to 15/16 ($93.75), respectively.

Then there was some unusual options activity in

Franklin Resources

(BEN) - Get Report

, an asset management firm overseeing the

Templeton

family of mutual funds. About 220 contracts of the February 35 puts traded at 1 3/16 ($118.75), down 1/8 ($12.50). The stock was up 7/16 to 35 13/16.

A put option is a contract between buyer and seller that gives the buyer, or owner, the right to sell stock (usually 100 shares) at an agreed-upon time (expiration) and price (or strike) in the future.

Since the open interest in the February 35 puts -- that is, the number of contracts already "opened" by investors -- totaled just 20, it seemed like the 220 puts made up a new position. But remember, it's unclear whether the investor was a buyer or seller of the puts, and that's needed to indicate sentiment.

There also was an unusual trade in

Firstar's

(FSR)

March 17 1/2 calls. The stock is down 3/16 to 21 1/2, and about 2,000 contracts crossed at 4 1/2 ($450), down 1/2 ($50).

Firstar is a relatively large regional bank, many of which have been acquisition targets in recent years. Generally, however, options trading based on takeover speculation would be in the "out-of-the-money" calls (again, calls with a strike price above the current stock price). According to one market maker, a Firstar options customer was simply looking to sell part of a large amount of calls. However, it was unclear whether that was because the investor decided a takeover wasn't in the cards or whether the investor simply wanted to take some profits.

Senior Writer

Eric Moskowitz contributed to this story.