EWZ Short Put Option Assignment Case Study

Many new options traders worry about what might happen to their portfolio during a short put option assignment scenario. They wonder how they can recover or if they have enough capital to hold onto the stock position. Just a few weeks ago, we were assigned one of our short put options in EWZ and were forced to buy stock well above where the stock price was trading.

Case Study: EWZ Short Put Option Assignment.

First position:

• May 21, 2018 - we sold the $38-centered iron butterfly in EWZ for a $323 credit. Implied volatility had spiked as EWZ was falling.
• We sold the 38 calls and 38 puts and bought options out at either end, with a set of just two contracts.

Second position: 

• May 29, 2018 - we sold the $36-centered iron butterfly in EWZ for a $310 credit.
• As EWZ continued to move lower, our strategy was to ladder into positions, spreading the trade entry out over time.

Third position:

• June 13, 2018 - we sold the $34-centered iron butterfly in EWZ for $264 credit.
• We continued to move our entries down as the stock continued to move lower.

Assignment:

• June 28, 2108, get assigned the original $38 short put options.
• Now, we were long 200 shares of EWZ at a strike price of $38 per share. 
• At this point, a lot of traders gave up and closed out the position.
• Deep in the money, short puts behave very similarly to long stocks, so the impact of assignment was not huge. The fact that we got assigned stock really did not change how the position was acting. We decided to hold the stock, given that the technicals suggest EWZ was over-sold.
• We also held the remaining contracts that we were not assigned.

Thought Process:

1. Look at the technicals.
2. Were you assigned long stock at the bottom of a big move lower?
3. If yes, are the technicals suggesting that maybe it's over-sold?

Facts:

• We had a laddered position that had taken in a lot of credits - $323, $310, and $264.
• EWZ was at the bottom of a 4.5-month move lower. 
• The technical signals suggested EWZ was over-sold.
• We were assigned really early in the expiration cycle. 

After assignment:

• July 6, 2018 - EWZ started rallying slowly back up near $34. We were able to close the third laddered position for a profit. We bought back the $34-centered iron butterfly for $196 after having sold it for $264.
• July 13, 2018 - EWZ had rallied all the way back to $35. We were then able to profitably close the $36-centered iron butterfly for $225 after having sold it for $310.

Calculating Breakeven Point:

• Take the $323 in credit and subtract the price of the stock that we were assigned, which was $38. 
• Our breakeven on this assigned EWZ stock was $34.77. You take the $38 assigned stock price and subtract the credit we received on the iron butterfly of $3.23 per share to calculate the $34.77 breakeven price. 
• A couple days later, we sold back shares that were assigned on July 20, when the stock price reached $35.52
• We sold back original shares that we were assigned at the bottom of the move in EWZ at $35.52.
• This turned the final iron butterfly position into a winner.

Conclusion:

• In this instance, EWZ never really gave us a great opportunity from the start. All three laddered positions went against us from the start.
• Be mechanical in spreading out your trades.
• Trust the use of technicals. 
• Keep your position size small.
• Be patient enough to understand that things never go straight up and straight down.
• Here’s a link to the Nightly Video Update recap version.