Options expiration week can be a scary time for some traders as they struggle with fears about short option contract assignment. And while the reality is that most options are not assigned, it still creates anxiety and confusion about what to do with short positions that are in-the-money. On today's podcast, I'll walk through the most recent OCC stats on options expiration including the #1 reason why you shouldn't be afraid to hold positions that go in-the-money even during expiration week.
Key Points from Today's Show:
- The expiration and assignment period is not something to fear.
- The probability of assignment does not happen as often as traders think.
- Most exercise and assignment occurs during the last days of the week of expiration.
- See episode 18 to review the assignment process and what to do if you are assigned.
Do Options Get Assigned Or Exercised As Soon As They Go Into The Money?
- No, options usually do not get assigned immediately.
- This is especially true for options that are further out in time and expiration.
- The assignment does not happen right away because if the long call or put buyer assigns you immediately then they forfeit all of their extrinsic value in the contract.
- By converting their contract to physical shares, they forfeit any extrinsic time value left in the contract.
The intrinsic value of the options contract when assigned right away, is the difference between the strike price and the current price of the stock. If the stock is trading at $105 and you are short the $100 call options, those $105 call options might be worth $6. However the difference between the strike price at $100 and the stock price at $105, that creates the $5 intrinsic value, which is the value that it has if it were to be assigned or exercised.
The extra dollar of the option contract creates the extrinsic value. This is the time value or volatility value left in the contract. Therefore if the buyer were to exercise the contract they will be giving up that extra dollar of value. It would be a better choice to close the contract and sell it back at $6 and then buy another contract. This is the main reason why most option contracts don't get assigned when the option goes in the money.
*Note: Once the option is multiple dollars in the money, close to expiration, and starts behaving more like short or long stock then the assignment is really high.
Week of Expiration
- Most assignment starts to happen during the week of expiration.
- In the week of expiration, most of the time value is out of the contracts.
- Options contracts start to trade closer to their intrinsic value.
- Most exercise and assignment does not occur until the end of the week.
Number One Reason to Stop Worrying About Assignment [Stats from the OCC].
- Of all options contracts in 2016, only 7% were actually exercised/assigned anytime before or at expiration.
- Most assignments occurred at expiration.
- Therefore 93% of options were not exercised/assigned in the market.
- 71.3% of all option contracts were closing sells.
- The final 21.7% are options that were held through expiration and not exercised.
*Take away: most options contracts are closed before expiration.
See episode 70 to review the steps to take during expiration week.
Free Options Trading Courses:
- Options Basics [20 Videos]: Whether you're a completely new trader or an experienced trader, you'll still need to master the basics. The goal of this section is to help lay the groundwork for your education with some simple, yet important lessons surrounding options.
- Finding & Placing Trades [26 Videos]: Successful options trading is 100% dependent on your ability to find and enter trades that give you an "edge" in the market. This module helps teach you how to scan properly for and select the best strategies to execute smarter option trades each day.
- Pricing & Volatility [12 Videos]: This module includes lessons on mastering implied volatility and premium pricing for specific strategies. We'll also look at IV relativeness and percentiles which help you determine the best strategy to use for each and every possible market setup.
- Neutral Options Strategies [7 Videos]: The beauty of options is that you can trade the market within a neutral range either up or down. You'll learn to love sideways and range bound markets because of the opportunity to build non-directional strategies that profit if the stock goes up, down or nowhere at all.
- Bullish Options Strategies [12 Videos]: Naturally everyone wants to make money when the market is heading higher. In this module, we'll show you how to create specific strategies that profit from up trending markets including low IV strategies like calendars, diagonals, covered calls and direction debit spreads.
- Options Expiration & Assignment [11 Videos]: Our goal is to make sure you understand the logistics of how each process works and the parties involved. If you don’t feel confident in the expiration processes or have questions that you just can't seem to get answered, then this section will help you.
- Portfolio Management [16 Videos]: When I say "portfolio management" some people automatically assume you need a Masters from MIT to understand the concept and strategies - that is NOT the case. And in this module, you'll see why managing your risk trading options is actually quite simple.
- Trade Adjustments/Hedges [15 Videos]: In this popular module, we'll give you concrete examples of how you can hedge different options strategies to both reduce potential losses and give yourself an opportunity to profit if things turn around. Plus, we'll help you create an alert system to save time and make it more automatic.
- Professional Trading [14 Videos]: Honestly, this module isn't just for professional traders; it's for anyone who wants to have eventually options replace some (or all) of their monthly income. Because the reality is that mindset is everything if you truly want to earn a living trading options.
Option Trader Q&A w/ José
Trader Q&A is our favorite segment of the show because we get to hear from one of our community members and help answer their questions live on the air. This week's question comes from José who asks:
- Assuming you are following the never risking more than 1% per trade rule and making many small trades to gain your edge in the market and let the number play out, would you find it okay to leave 50% in cash for trading options and use the other 25% for trading other instrument-like features?
- Other than trading options, do you trade anything else? For example, futures, equities, FX commodities?
Remember, if you’d like to get your question answered here on the podcast or LIVE on Facebook & Periscope, head over to OptionAlpha.com/ASK and click the big red record button in the middle of the screen and leave me a private voicemail. There’s no software to download or install and it’s incredibly easy.
PDF Guides & Checklists:
- The Ultimate Options Strategy Guide [90 Pages]: Our most popular PDF workbook with detailed options strategy pages categorized by market direction. Read the whole guide in less than 15 mins and have it forever to reference.
- Earnings Trading Guide [33 Pages]: The ultimate guide to earnings trades including the top things to look for when playing these one-day volatility events, expected move calculations, best strategies to use, adjustments, etc.
- Implied Volatility (IV) Percentile Rank [3 Pages]: A cool, simple visual tool to help you understand how we should be trading based on the current IV rank of any particular stock and the best strategies for each blocked section of IV.
- Guide to Trade Size & Allocation [8 Pages]: Helping you figure out exactly how to calculate new position size as well as how much you should be allocating to your each position based on your overall portfolio balance.
- When to Exit/Manage Trades [7 Pages]: Broken down by option strategy we'll give you concrete guidelines on the best exit points and prices for each trade type to maximize your win rate and profits long-term.
- 7-Step Trade Entry Checklist [10 Pages]: Our top 7 things you should be double-checking before you enter your next trading. This quick checklist will help keep you out of harms way by making sure you make smarter entries.
Real-Money, LIVE Trading:
- EWZ Iron Butterfly (Closing Trade): After nearly pinning the stock at our short strikes, and thanks to the volatility drop, we netted a $600 profit on this iron butterfly trade.
- VXX Short Call (Closing Trade): One of the most consistent and profitable options trades we can make is shorting pure volatility with VXX and today we closed this naked short call in VXX after a couple days for a $420 profit.
- DIA Iron Condor (Adjusting Trade): This neutral iron condor in DIA is need of a quick adjustment early this week as the market continues to rally. In this video, we'll discuss why I'm adding an additional put credit spread while also choosing NOT to close out of our current put credit spread due to pricing reasons.
- COP Short Put (Closing Trade): These single short puts in COP acted as a great hedge for our other bearish bets in oil this month and helped smooth out our returns after we closed them for a nice big profit.
- TSLA Put Debit Spread (Closing Trade): Although many people thought we were crazy for getting bearish in TSLA this pre-earnings put debit spread trade made us $200 today. After the huge run up from $140 to $260 and getting some technical sell signals, we were pretty sure this stock would pull back.
- MON Iron Condor (Closing Trade): Following a huge drop in implied volatility we worked hard to close this MON iron condor trade adjusting the order multiple times to fill before the end of the day.
- IBB Call Debit Spread (Opening Trade): We'll show you how I started searching for a new bullish trade and eventually found a low volatility trade in IBB looking for a move higher to hedge our portfolio.
- TLT Iron Butterfly (Closing Trade): Following the Brexit vote TLT and bonds traded in a nearly $8 range really quickly - even still the drop in implied volatility helped generate a $330 profit for us.
- XBI Call Debit Spread (Closing Trade): Got lucky picking the exact bottom for our entry in this call debit spread for the XBI biotech ETF which ultimately was closed for a profit of $165 today on the rally higher.
- COH Iron Butterfly (Earnings Trade): Shortly after the market open we close out of our COH earnings trade for about a $160 profit, leaving just 1 leg on to expire worthless.
- EWW Debit Spread (Closing Trade): Using some of the technical analysis signals we discovered in our backtesting research, we were able to make a quick $130 profit on this bearish EWW debit spread trade.
- IBM Iron Condor (Earnings Trade): Shortly after the market opened you'll follow along with me as we watch volatility drop and liquidity come into the market before closing out the position for $250 profit.
- SLV Short Straddle (Opening Trade): Using our watch list software we decided to continue to add to our existing SLV short straddle position with a new set of strike prices reflective of the move lower in the ETF recently.
Thank You for Listening!
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