Assignments after closing buys – Option Trading FAQ

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Assignments after closing buys

Q: Can i be assigned if I buy-to-close a short position?

A: You will not be assigned because the Options Clearing Corporation processes closing buys before exercises. Hence, there can no assignment on positions that had been closed via buy-to-close orders placed within that day’s trading hours. However, there exist a possibility that assignment had already taken place the day before but have not been communicated to you. To be 100% sure, check with your broker.

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Options FAQ: Options Assignment

Frequently asked questions about options

Options Assignment Questions

  • How can I tell when I will be assigned?
  • How could I be assigned if my covered calls are in-the-money?
  • If I am short a call option and I buy back my short call, can I be assigned?
  • I sold short 10 options contracts recently. Unfortunately, I was assigned early on each contract, one at a time. Couldn’t all the contracts have been assigned at once?
  • What time each day does the Clearing Firm receive information regarding assignments etc. from OCC?
  • I recently wrote a call option. At the market close on expiration Friday, the option was 41 cents (.41) in-the-money. My broker told me that calls are “automatically” assigned when they are a certain amount in the money at expiration. Is there is a way that I can avoid being assigned?
  • I wrote a slightly out-of-the-money covered call. The call has since moved in-the-money. Is there any way to avoid option assignment?
  • If I “buy to close” a short position, how can I be sure I will not be assigned?
  • When I sell an option to open, is my only chance of being assigned (and being required to fulfill my obligations as the option writer) when the person or entity that bought from me decides to exercise?

Options Assignment Answers

Q: I was assigned on my March 40 put option when the stock value went below $38, even though it wasn’t expiration. On another stock, I had a covered write position where I was short a 70 call which went in-the-money by $7, and the call wasn’t assigned until expiration day. How can I tell when I will be assigned?

A: The short answer is that you can never tell when you will be assigned. Once you sell an option (put or call), you have the potential for being assigned to fulfill your obligation to receive (and pay for) or deliver (and get paid for) shares of stock on any business day. In some circumstances, you may be assigned on a short option position while the underlying shares are halted for trading, or perhaps while they are the subjects of a buyout or takeover. To ensure fairness in the distribution of equity and index option assignments, The Options Clearing Corporation utilizes a random procedure to assign exercise notices to the accounts maintained with OCC by each Clearing Member. The assigned firm must then use an exchange approved method (usually a random process or the “first-in, first-out” method) to allocate those notices to accounts which are short the options.

Having said that, there are some generalizations which might help you understand when you might be more likely to be assigned on a short-option position.

  • Only about 12% of options end up being exercised; the percentage hasn’t varied much over the years. That does not mean that you can only be assigned on 12% of your short option, however. It means that, in general, option exercises are not that common.
  • The majority of option exercises (and the corresponding assignments) take place as the option gets closer to expiration. Without getting into the math too much, it usually doesn’t make sense to exercise an option, which has any time premium over intrinsic value. For most options, that doesn’t occur until close to expiration.
  • In general terms, a put which goes in-the-money is more likely to be exercised than a call which goes in-the-money. Why? Think about the result of an exercise. An investor who exercises a put uses it to sell shares and receive cash. A person exercising a call option uses it to buy shares and must pay cash. People are more likely to exercise options if it means they can receive cash sooner. The opposite is true for calls, where exercise means you have to pay cash sooner.

The bottom line is that you really don’t have any sure-fire way to predict when you will be assigned on a short option position; it can happen any day the stock market is open for trading.

Q: How could I be assigned if my covered calls are in-the-money?

A: The option holder has the right to exercise his or her options position prior to expiration regardless of whether the options are in- or out-of-the-money. You can be assigned if an investor or market professional holding calls of the same series as your short position submits an exercise notice to his or her brokerage firms, which in turn, submitted an exercise notice to The Options Clearing Corporation (OCC) (or if the brokerage firm is not an OCC Clearing Member, then it would submit the notice to a firm that is an OCC Clearing Member, and that Member would then submit the notice to OCC). OCC randomly assigns exercise notices to Clearing Members in whose accounts have short positions of the same series. The Clearing Member then assigns the exercise to one of its short positions using a fair assignment method, though not necessarily random. You should ask your brokerage firm how it assigns exercise notices to its customers.

Q: If I am short a call option (on a covered write) and I buy back my short call, is it possible for me to be assigned (and the stock position to be called away) that night?

A: No, it is not possible. The assignments are determined based on net positions after the close of the market each day. Therefore, if you bought back your short call, you no longer have a short position at the end of the day, and therefore no possibility of being assigned.

Q: I sold short 10 options contracts recently. Unfortunately, I was assigned early on each contract, one at a time. Couldn’t all the contracts have been assigned at once?

A: The exercise of an option prior to expiration is solely at the discretion of the buyer. The option buyer can also decide how many contracts in a multi-contract position to exercise at a given time. Once an exercise notice is tendered, The Options Clearing Corporation randomly selects for assignment a member brokerage firm carrying a short position in that series. The brokerage firm may, in turn, assign the notice randomly, or on a “first-in, first-out” basis. Regardless of what method is applied by the brokerage firm, equity options writers are subject to the risk each day that some or all of their short options may be assigned.

Q: What time each day does the Clearing Firm receive information regarding assignments etc. from OCC?

A: OCC’s Clearing Members can submit exercise notices, on a daily basis, up to 7:00 p.m. Central Time, and in general each Clearing Member will establish its own (earlier) deadline for its customers. (There is a different set of procedures for expiring options.) As part of its nightly processing, OCC randomly assigns its Clearing Members based on the days exercises. This processing is completed at approximately 1:00 a.m. Central Time. OCC transmits the assignments to its Clearing Members and as part of the Member’s nightly processing, they allocate the assignments to their customers on either a random basis or a first in – first out basis.

We understand the exchanges’ rules are that customers should be notified of assignments in a timely manner. It is best that you and your broker determine what constitutes ‘timely manner’ beforehand: Does ‘timely manner’ mean a call the morning of the assignment? Is there an update to your account that you can view online? Will you receive a letter in the mail?

For expirations, OCC process all exercise/assignments on Saturday. OCC’s processing is completed and transmitted to its Clearing Members late Saturday night. Clearing Members will process expiration exercises and assignments on Sunday and then notify their customers the next business day. Once again, you can probably get an approximation from your broker.

Q: I recently wrote a call option. At the market close on expiration Friday, the option was 41 cents (.41) in-the-money. My broker told me that calls are “automatically” assigned when they are a certain amount in the money at expiration. Is there is a way that I can avoid being assigned?

A: While each firm may have their own thresholds, the Option Clearing Corporation’s auto exercise threshold is 1 cent (.01) in the customers account. (The automatic exercise threshold in firms and market makers accounts is 1 cent (.01).) Customers and Brokers should check with their firm’s Operations Department to determine their company’s policies regarding exercise thresholds. An option holder has the right to exercise their option regardless of the price of the underlying security. It might be a good practice for all option holders to express their exercise – or non-exercise – instructions to their broker. Is there a magic number that ensures that option writers will not be assigned? The answer would be ‘NO’. Although unlikely, an investor may choose to exercise a slightly out of the money option or choose not to exercise an option that is in the money by greater than 1 cent (.01).

Some investors use the saying, “when in doubt, close them out”. This means that if they buy back any short contracts they are no longer at risk of being assigned.

Q: I wrote a slightly out-of-the-money covered call. The call has since moved in-the-money. Is there any way to avoid option assignment? (Submitted 5/03)

A: The most obvious and straight forward action would be to close out the position by buying the call back. While this may not be attractive and may result in a loss, or less than hoped for gain, it will assure that your stock will not be called away. Some alternatives to being assigned are to “roll out and up”. To roll out and up involves buying back the current option and selling a higher strike in a further out month. This may allow an investor to gain some additional time premium and added stock appreciation. You will want to consult your broker for any advice on this strategy.

Q: If I “buy to close” a short position, how can I be sure I will not be assigned?

A: You will first need to check with your broker to ensure that an assignment has not already occurred. If not, here is how processing occurs:

At the end of the day, the Options Clearing Corporation accumulates all option exercises. Prior to processing exercises, OCC’s clearing system accumulates all post-trade transactions and matched-trades together and applies them to Clearing Members’ positions in the following sequence:

1) All Opening Buys

2) All Opening Sells

3) All Closing Buys

5) All Closing Sells

Because closing buys are processed before exercises, there is no possibility of assignment on positions that were closed via closing buy orders during that day’s trading hours.

Q: When I sell an option to open, is my only chance of being assigned (and being required to fulfill my obligations as the option writer) when the person or entity that bought from me decides to exercise?

A: No. There are several reasons why this is untrue. First, the buy side of your opening sale could have been a closing purchase by someone who was already short the option. Second, as assignments are handed out randomly, anyone who is short that particular option is at risk of being assigned when an option holder exercises. Third, assuming the other side of your trade was an opening purchase, they may sell to close anytime but since you are still short, you are at risk of being assigned. As long as you keep a short option position open, you are at risk of being assigned. Generally speaking, assignment risk increases as the option becomes deeper in the money and as expiration approaches (the option trades with less time premium). Assignment risk also increases just before the ex-dividend date for short calls and just after the ex-dividend date for short puts.

At expiration all equity options that are in-the-money by a penny or more are exercised unless the option holder instructs their broker not to exercise.

Call Option

What is a Call Option?

A call option, commonly referred to as a “call,” is a form of a derivatives contract that gives the call option buyer the right, but not the obligation, to buy a stock Stock What is a stock? An individual who owns stock in a company is called a shareholder and is eligible to claim part of the company’s residual assets and earnings (should the company ever be dissolved). The terms “stock”, “shares”, and “equity” are used interchangeably. or other financial instrument Financial Assets Financial assets refer to assets that arise from contractual agreements on future cash flows or from owning equity instruments of another entity. A key difference between financial assets and PP&E assets – which typically include land, buildings, and machinery – is the existence of a counterparty. at a specific price – the strike price of the option – within a specified time frame. The seller of the option is obligated to sell the security to the buyer if the latter decides to exercise their option to make a purchase. The buyer of the option can exercise the option at any time prior to a specified expiration date. The expiration date may be three months, six months, or even one year in the future. The seller receives the purchase price for the option, which is based on how close the option strike price is to the price of the underlying security at the time the option is purchased and on how long a period of time remains till the option’s expiration date. In other words, the price of the option is based on how likely, or unlikely, it is that the option buyer will have a chance to profitably exercise the option prior to expiration. Usually, options are sold in lots of 100 shares.

The buyer of a call option seeks to make a profit if and when the price of the underlying asset increases to a price higher than the option strike price. On the other hand, the seller of the call option hopes that the price of the asset will decline, or at least never rise as high as the option strike/exercise price before it expires, in which case the money received for selling the option will be pure profit. If the price of the underlying security does not increase beyond the strike price prior to expiration, then it will not be profitable for the option buyer to exercise the option, and the option will expire worthless, “out of the money”. The buyer will suffer a loss equal to the price paid for the call option. Alternatively, if the price of the underlying security rises above the option strike price, the buyer can profitably exercise the option.

For example, assume you bought an option on 100 shares of a stock, with an option strike price of $30. Before your option expires, the price of the stock rises from $28 to $40. Then you could exercise your right to buy 100 shares of the stock at $30, immediately giving you a $10 per share profit. Your net profit would be 100 shares, times $10 a share, minus whatever purchase price you paid for the option. In this example, if you had paid $200 for the call option, then your net profit would be $800 (100 shares x $10 per share – $200 = $800).

Buying call options enables investors to invest a small amount of capital to potentially profit from a price rise in the underlying security, or to hedge away from positional risks Risk and Return In investing, risk and return are highly correlated. Increased potential returns on investment usually go hand-in-hand with increased risk. Different types of risks include project-specific risk, industry-specific risk, competitive risk, international risk, and market risk. . Small investors use options to try to turn small amounts of money into big profits, while corporate and institutional investors use options to increase their marginal revenues Marginal Revenue Marginal Revenue is the revenue that is gained from the sale of an additional unit. It is the revenue that a company can generate for each additional unit sold; there is a marginal cost attached to it, which has to be accounted for. and hedge their stock portfolios.

How Do Call Options Work?

Since call options are derivative instruments, their prices are derived from the price of an underlying security, such as a stock. For example, if a buyer purchases the call option of ABC at a strike price of $100 and with an expiration date of December 31, they will have the right to buy 100 shares of the company any time before or on December 31. The buyer can also sell the options contract to another option buyer at any time before the expiration date, at the prevailing market price of the contract. If the price of the underlying security remains relatively unchanged or declines, then the value of the option will decline as it nears its expiration date.

Investors use call options for the following purposes:

1. Speculation

Call options allow their holders to potentially gain profits from a price rise in an underlying stock while paying only a fraction of the cost of buying actual stock shares. They are a leveraged investment that offers potentially unlimited profits and limited losses (the price paid for the option). Due to the high degree of leverage, call options are considered high-risk investments.

2. Hedging

Investment banks and other institutions use call options as hedging instruments. Just like insurance, hedging with an option opposite your position helps to limit the amount of losses on the underlying instrument should an unforeseen event occur. Call options can be bought and used to hedge short stock portfolios, or sold to hedge against a pullback in long stock portfolios.

Buying a Call Option

The buyer of a call option is referred to as a holder. The holder purchases a call option with the hope that the price will rise beyond the strike price and before the expiration date. The profit earned equals the sale proceeds, minus strike price, premium and any transactional fees associated with the sale. If the price does not increase beyond the strike price, the buyer will not exercise the option. The buyer will suffer a loss equal to the premium of the call option. For example, suppose ABC Company’s stock is selling at $40 and a call option contract with a strike price of $40 and an expiry of one month is priced at $2. The buyer is optimistic that the stock price will rise and pays $200 for one ABC call option with a strike price of $40. If the stock of ABC increases from $40 to $50, the buyer will receive a gross profit of $1000 and a net profit of $800.

Selling a Call Option

Call option sellers, also known as writers, sell call options with the hope that they become worthless at the expiry date. They make money by pocketing the premiums (price) paid to them. Their profit will be reduced, or may even result in a net loss, if the option buyer exercises their option profitably when the underlying security price rises above the option strike price. Call options are sold in the following two ways:

1. Covered Call Option

A call option is covered if the seller of the call option actually owns the underlying stock. Selling the call options on these underlying stocks results in additional income, and will offset any expected declines in the stock price. The option seller is “covered” against a loss since in the event that the option buyer exercises their option, the seller can provide the buyer with shares of the stock that he has already purchased at a price below the strike price of the option. The seller’s profit in owning the underlying stock will be limited to the stock’s rise to the option strike price but he will be protected against any actual loss.

2. Naked Call Option

A naked call option is when an option seller sells a call option without owning the underlying stock. Naked short selling of options is considered very risky since there is no limit to how high a stock’s price can go and the option seller is not “covered” against potential losses by owning the underlying stock. When a call option buyer exercises his right, the naked option seller is obligated to buy the stock at the current market price to provide the shares to the option holder. If the stock price exceeds the call option’s strike price, then the difference between the current market price and the strike price represents the loss to the seller. Most option sellers charge a high fee to compensate for any losses that may occur.

Call vs. Put Option

A call and put option are the opposite of each other. A call option is the right to buy an underlying stock at a predetermined price up until a specified expiration date. On the contrary, a put option is the right to sell the underlying stock at a predetermined price until a fixed expiry date. While a call option buyer has the right (but not obligation) to buy shares at the strike price before or on the expiry date, a put option buyer has the right to sell shares at the strike price.

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