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Buy Hershey Options Given M&A Odds, Capstone Says

Hershey's Kisses and Milk Chocolate bars are arranged for a photograph. Photographer: Adam Rountree/Bloomberg
Hershey's Kisses and Milk Chocolate bars are arranged for a photograph. Photographer: Adam Rountree/Bloomberg

Investors should purchase Hershey Co. options because their prices don’t reflect the high probability that Nestle SA will bid for the candymaker, according to Capstone Global Markets LLC said.

Sachin Shah, a merger arbitrage specialist at the broker-dealer, recommended buying 10,000 Hershey shares along with 100 January $43 puts and 100 January $49 calls in a strangle trade. Hershey rose 0.7 percent to $46.35 at 4 p.m. New York time, extending its 2010 gain to 30 percent. That compares with the Standard & Poor’s 500 Index’s 3.2 percent drop since Dec. 31.

“There’s a strong possibility that Nestle is interested in acquiring Hershey,” Shah, who is based in New York, wrote in an Aug. 11 report. “Hershey will have to merge with a peer to effectively confront the growing competitive landscape.”

Mergers and acquisitions are a “future growth enabler” for Nestle, Chief Financial Officer Jim Singh said on Aug. 11. The company has bought companies with annualized sales of 2.5 billion francs so far this year, he said.

Nestle, based in Vevey, Switzerland, expects to get a $28.1 billion payment from Novartis AG for selling its stake in Alcon Inc. this quarter. That means the company could buy almost any publicly traded food asset with cash. Hershey shares are valued at more than $10 billion.

“We believe that although some expectations are built in the Hershey stock, Hershey option term structure is pricing in very low expectation of any deal,” Shah wrote.

More investors have bet against Hershey than at any time in more than 15 months. Traders sold 9.51 million shares of Hershey short as of July 30, the most since April 15, 2009. The traders have sold shares they don’t own and intend to buy them back if the price declines, profiting from the difference.

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