Expiration, Exercise and Assignment
Expiration
As your option contract approaches its expiration date, there are a few important things to keep in mind:
- We’ll typically attempt to exercise any long option that is in the money by at least $0.01 if your account has the required buying power.
- If your account doesn’t have enough buying power to exercise your option contract, we’ll typically attempt to close out the option contract for you starting at 90 minutes before market close.
- Firstrade takes into consideration the value of a position, the implied risk, and the customer’s current balance, buying power, and account equity to decide if the position can continue to be held or not. In some cases, Firstrade believes the risk of holding the position is too big and will close the position on behalf of customers.
If your option expires in the money, Firstrade will typically attempt to exercise it for you at expiration unless:
- Your account doesn’t have enough buying power.
- Doing so would result in a short stock position, and you don’t have enough buying power to short the stock or this stock is not available to short.
If you have a Long Call about to expire:
- If the option is in the money or at risk of being in the money, we will check if your account has enough buying power to buy the shares.
- If your account doesn’t have enough buying power to buy the shares, we’ll typically attempt to close out the option position.
If you have a Long Put about to expire:
In a cash account:
- If the option is in the money or at risk of being in the money, we will check if your account has enough shares to sell
- If your account doesn’t have enough shares, we’ll typically attempt to close out the option position.
In a margin account:
- If the option is in the money or at risk of being in the money, we will check if your account has enough shares to sell, or if you have enough buying power to short the stock and if this stock is available to short.
- If your account doesn’t have enough shares, and you don’t have enough buying power to short the stock or this stock is not available to short, we’ll typically attempt to close out the option position.
If you have a spread about to expire:
- If both legs are expected to be in the money or deemed to be not at risk of being in the money at the market close, we’ll typically take no action.
- If only one leg is at risk of being in the money, we'll typically attempt to close the spread.
Expiration Risk
Our Firstrade risk team monitors potential expiration risk throughout the day and periodically sends email notifications to accounts that have excessive potential expiration risk. Starting at 90 minutes before market close, the risk team will start to close out the (in the money / out of the money) expiring options positions that may be subject to potential exercise / assignment, depending upon account equity, buying power, and market conditions.
For Long Puts to be eligible for exercise, the underlying stock must be either held long in your account or available to short (listed under the Easy to Borrow List). Generally, out-of-the-money option contracts expire worthless. However, the Out-of-the-Money (OTM) short options positions could potentially still get assigned, because after-hours price action can turn an OTM option into an “ITM option”, and the long option holders may request to exercise their long options even though their long option may have expired OTM based on the closing price.
You should review your account status for any contracts that you do not have sufficient buying power/shares to support the potential exercise/assignment; these contracts must be closed out at least 90 minutes before the market closes on the option expiration date, to avoid potential cash calls, margin calls, and forced liquidation with additional processing fees.
Note:
If for any reason we can't sell your option contract, and your account doesn’t have the required buying power or shares to exercise it, we'll typically attempt to submit a Do Not Exercise request, and your option contract will expire worthless.
To determine if an option position is “at risk of being in the money,” Firstrade will calculate the Range of Price Shock, the potential magnitude of underlying stock price’s movement on the expiration date. If your option’s strike price falls within these parameters, it’s considered “at risk of being in the money”, and if your account doesn’t have the necessary buying power to cover the potential exercise/assignment, we’ll typically close out your option position.
The only way for you to eliminate this expiration risk is to close out short option position(s) at least 90 minutes before market close at expiration.
The following is a quick guide of what to expect when and if your options are exercised or assigned:
|
Strategy
|
Action
|
Result
|
|
Long Call
|
Exercised
|
Purchase shares of the underlying stock at the strike price.
|
|
Short Call
|
Assigned
|
Sell shares of the underlying stock at the strike price and may result in a short stock position
|
|
Long Put
|
Exercised
|
Sell shares of the underlying stock at the strike price.
|
|
Short Put
|
Assigned
|
Purchase shares of the underlying stock at the strike price and result in a long stock position
|
In The Money (ITM)
- A call option is in the money if the underlying stock price is above the option’s strike price.
- A put option is in the money if the underlying stock price is below the option’s strike price.
Note:
Please keep in mind that an option contract being “In the Money” doesn’t necessarily mean that its holders will make a profit if they were to exercise it.
For example, if you buy a strike price of $100 call option by paying a $5 premium, your call is in the money when the stock trades above $100, though you wouldn’t break even until it hits $105.
Out of The Money (OTM)
- A call option is out of the money if the underlying stock price is below the option’s strike price.
- A put option is out of the money if the underlying stock price is above the option’s strike price.
What happens if my option is out of the money at expiration?
If an option expires out of the money at expiration, the option becomes worthless. You may close it out before expiration to recoup any premium that is possibly remaining.
Exercise
If your long option (buy to open) expires in the money, Firstrade will automatically exercise it for you at expiration. If you’d like to exercise your long option before expiration, you can simply send us an email detailing the below:
- Your full name, and Firstrade account number
- The number of contracts you would like to exercise
- The underlying symbol, expiration, and strike price
Please note that exercise-requests have to be submitted before 4:30 PM ET on the trading day before the expiration date.
Note:
Equity and ETF options are considered as In-the-money (ITM) / Out-of-the-money (OTM) based on the closing price of underlying stock or ETF at expiration.
“Do Not Exercise” Request
If you have a long option that expires in the money (ITM) and do not want it to be exercised automatically, you need to submit a Do Not Exercise request before 4:30 PM ET on the option’s expiration date. You may follow the same instruction as listed above.
Do Not Exercise requests apply only to long option positions that expire in the money. If you have a short option that expires in the money, you cannot request Do Not Exercise. As a short option holder, you are obligated to deliver or take delivery of the assigned position for a short call or short put position, respectively.
“Exercise By Exception” Request
If you have a long option that expires out of the money (OTM) and want to exercise it, you may submit an Exercise By Exception request by 4:30 PM EST on the option’s expiration date. You may follow the same instruction as listed above.
Exercise By Exception requests applies only to the long option positions that expire out of the money. If you have a short option that expires out of the money, you cannot request Exercise By Exception. As a short option holder, you are obligated to deliver or take delivery of the assigned position for a short call or short put position, respectively.
Exercise By Exception requests requires the account to have sufficient buying power to process an exercise request.
Note:
All exercises & assignments are processed overnight.
There is no definitive way to know if you will be assigned or how many contracts will be assigned for the short options positions in your account until the next morning after the counterparty’s exercise request is processed.
The long leg of your spread will not be automatically exercised if you were assigned early. The long option may only get automatically exercised when it expires in the money.
Assignment
When you are assigned, you have the obligation to fulfill the terms of the contract. When you sell-to-open an option contract (short option), you can typically get assigned at any time prior to expiration, regardless of the underlying share price.
Depending on the collateral being held for your short option contract, there are a few different scenarios that could happen when you’re assigned before expiration.
1. If you’re assigned on a covered call:
The shares you have as collateral will be sold to settle the assignment. No additional action is necessary.
2. If you’re assigned on a cash-secured put:
The buying power that’s previously deducted as collateral will be used to purchase shares to settle the assignment. No additional action is necessary.
3. If you’re assigned on the short leg of a call spread:
When you are assigned, you have the obligation to sell shares of the underlying stock at the strike price, which may result in a short stock position in an account. In this case, the long leg (you bought to open) should provide the collateral needed to cover the short leg. However,
A. If your long leg is In-the-money (ITM)
The long leg of your spread may be exercised to purchase the shares needed to settle the assignment if a margin call occurs.
B. If your long leg is Out-of-the-money (OTM)
You may have to purchase the shares needed from the market to cover the short stock position if a margin call occurs.
4. If you are assigned on the short leg of a put spread:
When you are assigned, you have the obligation to buy shares of the underlying stock at the strike price, which may decrease buying power or result in an account deficit. In this case, the long leg (you bought to open) should provide the collateral needed to cover the short leg. However,
A. If your long leg is In-the-money (ITM)
The long leg of your spread may be exercised to sell the assigned shares at the strike price to cover the account deficit/margin call due to the assignment of the short leg.
B. If your long leg is Out-of-the-money (OTM)
You may have to sell the shares to the market if there is an account deficit / a margin call that occurs due to the assignment of the short leg.
Note:
All exercises & assignments are processed overnight.
There is no definitive way to know if you will be assigned or how many contracts will be assigned for the short options positions in your account until the next morning after the counterparty’s exercise request is processed.
The long leg of your spread will not be automatically exercised if you were assigned early. The long option may only get automatically exercised when it expires in the money.
Dividend Risk
One of the biggest risks of options trading is dividend risk. If your account has any short call options (covered call or call spread position), there is a risk that you’ll get assigned on your short call options the night before the ex-dividend date.
When this happens to your covered call position, the shares you have as collateral will be called away (100 shares per contract) and you will lose the dividend payment.
When this happens to your call spread position, your account will have a short stock position (100 shares per contract) on the ex-dividend date; and you will actually be responsible for paying that dividend on the payable date.
You can avoid this by closing your option position before the market closes at 4 PM Eastern Time on the day before the ex-dividend date.
In order to receive the dividend for a stock, you need to purchase the shares or exercise the long call option before the ex-dividend date and hold the shares until the ex-dividend date to be entitled to the dividend.
Note:
On the trading day before the ex-dividend date, we will check if your account has enough buying power to cover the dividend that you may probably have to pay to the other party when the short leg of your spread position may potentially get assigned. If your account does not have enough buying power to cover the dividend payment, we would typically attempt to close out your spread position before the market closes at 4 PM Eastern Time on the day before the ex-dividend date in order to help reduce the risk in your account.
EXAMPLE
Let’s say, ABC will pay out the following dividend:
- Ex-Date: 09/18/2020
- Record Date: 09/21/2020
- Pay Date: 09/30/2020
- Amount: $2.00
If you have a covered call or a call spread position for ABC that is expiring on 09/18/2020, there is a risk that you will be assigned the night before the ex-dividend date.
For a covered call position:
If you get assigned on 09/17/2020 when the market opens on 09/18/2020, 100 shares of ABC stock position that you have as collateral would have been sold at the strike price to the counterparty (a person who bought and exercised the call option). No action needed to be taken.
For a call spread position:
If you get assigned on 09/17/2020, when the market opens on 09/18/2020, you will have a short position of 100 shares of ABC that were exercised by the counterparty (a person who bought and exercised the call option). In this case, you’ll have to pay the dividend that is associated with these shares to the other party.
In this example, you’ll owe $2 x 100 shares = $200. We’ll automatically deduct the dividend amount from your account on the payable date, even if it causes you to have a negative cash balance. We would typically attempt to buy back the shares to cover the short stock position if a cash call or margin call occurs on the ex-dividend date.
Disclosures
Options trading entails significant risk and is not appropriate for all investors. Certain complex options strategies carry additional risk. Firstrade does not guarantee favorable investment outcomes and there is always the potential of losing money when you invest in securities or other financial products. Investors should consider their investment objectives and risks carefully before investing. To learn more about the risks associated with options, please read the Characteristics and Risks of Standardized Options before you begin trading options. Please also be aware of the risks listed in the following documents: Day Trading Risk Disclosure Statement and FINRA Investor Information. Examples contained in this article are for illustrative purposes only. Supporting documentation for any claims, if applicable, will be provided upon request.