Market Insights

After a long bidding war for Warner Bros. Discovery, one big options trader is looking for the current deal to go through.

This unusual surge of activity was detected in the media giant yesterday:

• Some 70,000 October 20 puts were bought for roughly $0.35.
• A similar number of October 27 puts were sold for about $1.30.
• Volume was below open interest in the October 20s but not the 27s, which suggests an existing position was closed at the lower strike and rolled higher.

Puts often gain value when prices fall because they fix the price were a security can be sold. Investors can also sell puts when they think downside is limited. They get to keep the credit received but are also obligated to buy the stock if it closes below the strike price.

In the case of yesterday’s transaction, the trader probably sold the October 20s at an earlier date. The puts likely lost value as WBD climbed, resulting in a profitable position. He or she then bought the contracts back and sold new puts at the higher strike, letting them collect an additional $0.95. In return, they’re now on the hook to buy stock at $27 instead of $20.

Warner Bros. Discovery (WBD), daily chart, showing key levels and events.

Media Merger

The put roll came after Paramount Skydance (PSKY) agreed to buy WBD for $31 per share in cash. That deal ended a multi-month bidding war for the parent of media brands like HBO, CNN and TNT. The battle started in September, with PSKY offering $19 a share.  Bids rose into the low $20s, but all were rejected.

Netflix (NFLX) entered the fray in late October, followed by a flurry of offers and counter offers in December. WBD accepted PSKY’s final offer last week, uniting two media conglomerates with centuries of combined history in American media. It’s expected to close in the third quarter.

Selling puts on such a company is a classic example of “merger arbitrage,” a specialized strategy designed to generate income from the passage of time. In this case, they’re looking for WBD to stay above $27 and the puts to become worthless as the final pieces come together. (It’s an advanced strategy with potentially significant risk from selling options.)

The stock fell 1 percent to $27.91 on Wednesday.

Overall option volume was slightly above average in WBD yesterday, with puts accounting for 96 percent of the activity.

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