15 Options Expiration Questions Answered
We get a lot of questions about options expiration – hundreds and hundreds each week. Yet, the same few seem to consistently float to the top, so we’re pulling these 15 popular questions to help you better understand options expiration. In the off chance we didn’t answer your question during the show, you can always reach out to us anytime for help and support. If you’re going to trade options, you can’t avoid going through expiration. So, if you’re going to trade options, you can’t miss this week’s podcast.
Recent Stats from the OCC
- These stats are from the Options Clearing Corporation for 2019 and pertain to options contracts trading, for closing sales, exercising, and long expirations.
- Of all contracts, 72.5% were closed, 6.3% were exercised, and 21.5% were long expirations where the contracts expired worthless.
- This backdrop helps to see expiration as less of a scary thing. It’s part of the business and the process but is completely manageable.
1. Will My Broker Automatically Exercise Options That Are ITM (In-The-Money) At Expiration?
- Yes, they will.
- Check with your broker by how much the contract has to be in the money, though. Generally, even if it is by a penny, the broker will automatically exercise it.
- Two side notes:
- Being assigned stock and converting it over to shares is not necessarily bad, it just requires a change in the trade structure.
- See how our trading bot curbs that early assignment risk that we might see in positions.
2. Why Do All OTM (Out-Of-Money) Options Expire Worthless?
- This is because they have no intrinsic value. Options contracts are derived from the intrinsic and extrinsic value, which depend on them being in the money and not having expired yet. An expired option has no more extrinsic value because it’s run out of time, it’s run out of volatility value, and there’s no more interest rate impacted. It’s run out of intrinsic value, too, because, if it’s out of the money, there’s no value to it being converted. It has expired worthless.
3. What Happens To Deep ITM Spreads At Expiration?
- If you have a short put spread that is now deep in the money and you let those contracts go through expiration, they will effectively cancel each other out when they go through assignment and exercise.
- Rather than going through the hassle of this process and potentially additional fees, manually close the trades before expiration and reverse the trade by buying and selling back the contracts of the spread and close the position as you normally would.
4. What Time of Day Do Options Expire?
- Options usually stop trading at 4 p.m., eastern time, but then they expire after that at different times in the evening. It’s important to understand that when they stop trading, they don’t actually settle at that price. The settlement price actually occurs later in the evening when trading stops after-hours. This means that things can change depending on whether the contract is assigned or not or whether it goes through exercise or not.
5. What Happens When Options Expire OTM?
- Nothing happens. When options expire out of money, they just cease to exist.
6. Are There Advantages To Letting Options Expire ITM?
- There is only an advantage if you want to get delivery of the shares (see OAP 107 where we discuss the wheel strategy).
- If you don’t want to get delivery of the shares, there’s no real advantage because going through expiration for most brokers requires additional fees, and so does holding the underlying shares that you want to get delivery of.
7. What Happens If Your Option Expires ITM?
- The broker will automatically exercise it because they assume that you wanted to take delivery of it.
- That doesn’t mean that you’ll lose the option premium, it just will be factored into all of your trading P&L, but it will go through the process of conversion from option to underlying shares.
8. Can You Avoid Option Assignment?
- No, you can’t. Option assignment by its nature is random.
- Statistically, most of the options that are assigned or exercised (6.3%) happen in the last couple of days of expiration.
- Sometimes you do get assigned randomly very early in the cycle for no apparent reason.
- You can avoid this happening as much as possible by closing positions early.
9. Who Decides if A Contract is Exercised or Not?
- That one’s tricky to answer, because technically any time before expiration, the option buyer decides. Once you get to expiration, though, both parties could choose.
10. How Does Time to Expiration Impact Option Prices?
- This is a matter of theta decay. Theta decay slowly erodes the value of the contract, the time value that’s inherent in the option contract, as it approaches expiration. Theta decay starts off really slow for option contracts that are far from their expiration and accelerate as they reach expiration. Around the 40-45-ish days until expiration period, the slope of the line of decay starts to accelerate at an ever-increasing pace.
11. Is It Better to Sell Options Before Expiration?
- In Kirk’s opinion, it is better to sell before expiration rather than letting it go through the exercise and assignment process. Hence, the OCC statistic that most of the options contracts that are traded have closing sales.
12. How Soon Can You Sell Options Before Expiration?
- You can sell them right away. While American and European contracts differ in that the American can be exercised or assigned any time before expiration where European can only be exercised at expiration, this says nothing about the fact that you can trade those contracts back and forth as much as you want anytime.
13. What is the Value of A Call Option On Its Expiry Date?
- The value of a call option or the value of a put option on its expiration date is its intrinsic value.
- For example, if you have a call option with a $50 strike and the stock closed at expiration at $55, then the option contract is worth exactly $5, which is the difference between the strike price and where the stock closed.
14. What Happens When A Put Option Expires ITM?
- When a put option expires in the money and it is exercised or assigned, depending on which side of the contract you’re on, then the shares are exchanged from one person to another.
- If you are short a put option contract at a $50 strike price, if that contract expires in the money, you will be assigned your short put option contract, and you will be forced to buy the stock at $50.
- On the other hand, the put option buyer, who is selling you stock at $50, may already own the stock. Or, they may just believe that the stock is going to go down in value, though, so they buy a put option contract at $50, and they can sell stock at $50 and repurchase it in the open market for some lower price.
15. Are Weekly or Monthly Expiration Contracts Better?
- For the purposes of this podcast, there’s no difference in them other than when they expire. One is not necessarily better or worse than the other. A monthly contract will eventually become a weekly contract the week that it expires.
- For both contracts, if something’s in the money, it gets exercised. If something’s out of the money, it expires worthless.
Option Trader Q&A w/ Rich
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. Today’s question comes from Rich:
Hi, Kirk. This is Rich. Just finished listening to your weekly podcast, number 128, dealing with adjustments to option trades and laddering. I have also listened to your course module that discusses option trade adjustments, specifically on vertical spreads. In that lecture, you described turning a vertical spread into an iron condor, as opposed to laddering out on the original trade. Is the approach different with the iron condor versus the vertical spread, because the iron condor is a neutral strategy, and therefore, you want to ladder trades with the direction of the market? And the vertical spread is a directional bet and therefore, you don’t want to ladder in the direction of the market? I would appreciate your explanation as to the different adjustment strategies. Thank you for all your help.
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.