U.S. Markets closed

Traders on edge as Staples-Office Depot deal decision looms

A shopping cart is seen outside a Staples office supplies store in the Chicago suburb of Glenview, Illinois, February 4, 2015. Inc . REUTERS/Jim Young

By Saqib Iqbal Ahmed

NEW YORK (Reuters) - Options traders are bracing for wild gyrations in the shares of Staples Inc and Office Depot Inc as the companies await a ruling that could scuttle their pending merger.

Staples, the largest U.S. office supplies retailer, agreed to buy the second-biggest player, Office Depot, in a $6.3 billion deal in February of 2015, but the U.S. Federal Trade Commission, which regulates competition, sued in December to block the merger.

The U.S. District Court for the District of Columbia is expected to decide next week whether to grant the FTC's request for a preliminary injunction to block the transaction until an administrative judge can review it.

A decision is expected by May 10, Office Depot Chief Executive Roland Smith said last week.

An injunction could kill the deal since protracted litigation makes it difficult to hold a merger together.

Options traders have pumped up expectations for a large near-term move in the shares.

"Volatility has increased substantially over the last week, but there is no clear indication on which way the 'smart money' is leaning," said Jim Smith, options strategist at OTR Global.

The 30-day implied volatility readings for both companies, a gauge of the risk of a big move in the shares, are at multi-year highs.

Based on options prices, Staples shares could swing by about 18 percent in either direction by May 20. The implied move for Office Depot shares is about twice that much.

On Friday, options on both companies were changing hands at a faster pace than normal.

Office Depot calls, typically used for making bullish bets, were particularly active with 48,000 contracts traded, about twice the average daily volume.

These, however, may not be outright bullish bets, said Fred Ruffy, analyst at options analytics firm Trade Alert.

"I think some of these are institutional people positioning to play this as part of a risk arbitrage if the deal moves forward," he said.

Risk arbitrage is a speculative strategy that attempts to generate profits by buying the stock of the target company, and possibly selling short the acquirer's stock. Hedge funds often employ options as a low-risk alternative to the outright purchase or sale of shares.

Staples shares have fallen about 38 percent over the last year, and on Friday, were nearly flat at $10.19. Office Depot shares, down about 33 percent for the past year, were up 2 percent on Friday to $6.06.

(Reporting by Saqib Iqbal Ahmed, editing by Lewis Krauskopf and Andrew Hay)