Options Exercise Process
A more advanced tutorial very similar to our assignment process video. We'll break down the exact process that happens behind the scenes if you decide to exercise your contract. From the exercise request to your broker and the OCC's handling of the assignment to the ultimate party who is given shares or stock. Though we rarely exercise and take possession of stock, it's important to know how it's handled. That way, if you do want to take the stock long or short you can do it quickly and with 100% confidence.
We’re going to talk about in this video tutorial the options exercise process. This is the physical process of converting any of your options into physical stocks.
I want to go over who the parties are involved and how the process works so that you have an understanding of what happens behind the scenes before you get delivered shares of stock.
And on the same hand, we want to talk about, or I guess we can talk about in this video what the process is when you get assigned because it’s the same thing just on the flipside.
We’ll get right into it here. This is the options exercise process, and we have this diagram here that helps us explain what's going on.
For an options exercise where you are the holder of an option, in this case, the call holder of an option and you have a long call, and you want to convert that into shares of stock, you’re going to first send your broker a notice that you want to exercise.
Now again, exercising does cost money, so you just want to check the fees that your broker charges you to exercise that option. Your broker then is going to send notice of expiration to the OCC. This is that big clearing corporation that oversees and guarantees all the options that are traded.
And the OCC is going to immediately deliver shares to your broker’s account who’s going to then put shares on your account. And it's that simple. That's how quickly things can happen. This can be very, very quick if you have a really good broker.
Now, what happens on the backside of this order is that the OCC actually is going to then randomly select some other member firm, so a firm or another broker that has a short call and is going to let them know that they’ve been exercised that call and is going to assign them the actual exercise notice.
That broker is immediately before going to you, is going to deliver shares to the OCC that it has in its account. Before going to you, the call writer in this particular example, they’re going to immediately deliver those shares, so that they’re made whole with the OCC, and then they’ll worry about coming after you obviously for the difference.
Then after sending those shares to the OCC, the call writer’s broker is going to assign the exercise to one of its customers.
Now, this is important to understand that they’re either going to do this randomly, computer generated random account numbers, or they’re going to do it on a FIFO basis which means first in first out.
It means that those who were traded first are first to be exercised, etcetera. And they’re going to assign you the shares and take the money out of your account, or they’re going to take the shares out of your account if you’re doing a covered call in this example or a cash secured put.
They’d take either the money out of your account, or you’d be required to deliver shares somehow. That’s the process of options exercising. It’s not that complicated of a process.
It sounds big and enormous on the outside, but it's very, very simple once you understand who the parties are that are involved in the transaction. As always, I recommend that you contact your brokers immediately.
They always have their fees and charges published on the website just to understand what the process is for actually exercising some of these orders. As always, I hope you guys enjoyed this video.
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