Informed Options Trading prior to Takeover Announcements: Insider Trading?∗

We quantify the pervasiveness of informed trading activity in target companies’ equity options before M&A announcements. About 25% of takeovers have positive abnormal volumes, which are greater for short-dated out-of-the-money calls, consistent with bullish directional trading ahead of the announcement. Over half of this abnormal activity cannot be explained by speculation, news and rumors, trading of corporate insiders, leakage in the stock market, deal predictability, or beneficial ownership filings by activist investors. Though the characteristics of a sample of illegal option trades prior to M&A announcements closely resembles the characteristics of abnormal option trades in our sample, the SEC litigates only about 8% of all deals in it. Hence, our findings flag abnormal options volume as a useful indicator for regulatory prosecution of insider trading.