Options Exercise, Assignment, and More: A Guide
Today, traders of all inclinations—bullish, bearish, or those even anticipating range-bound action—use options to generate income, speculate, and protect against potential losses. One of the most important differences to learn about between options and stocks is expiration. Unlike stocks, options contracts all have an end, or expiration, date, and knowing how to strategize as this date approaches can be key to options-trading success.
This guide to options expiration basics can help aspiring option traders navigate exercise and assignment before they make their first trade. If you need an initial guide to basic options terminology (long versus short, call versus put), refer to some of our other options basics content on the Learn tab of Schwab.com.
First, we'll start out with a few simple definitions related to the expiration of an options contract:
- Expiration: The final day of an options contract's life cycle, and the last day the option buyer has the right to buy (or sell) the underlying at the strike price. Many traders buy and sell options contracts long before expiration without ever intending to hold them until exercise or assignment.
- In the money (ITM): Describes an option with intrinsic value, or the value an option would have if it expired right now. A call option is ITM if the stock price is above the strike price. A put option is ITM if the stock price is below the strike price.
- Out of the money (OTM): Describes an option with no intrinsic value. A call option is OTM if the stock price is below the strike price. A put option is OTM if the stock price is above the strike price.
- At the money (ATM): A call or put is ATM if its strike price is mathematically closest to the price of the underlying stock. An ATM option may be either technically ITM or OTM, depending on where the underlying stock is trading. ATM options also consist only of extrinsic value, or the value of an option due to time until expiration and implied volatility. Along with the price of the underlying stock, these factors represent an options premium's potential to increase in value before expiration.
- Exercise: When an option buyer, or owner, decides to act on the right offered by their options contract. For call options, exercising means buying the underlying security at the strike price. For put options, it means selling the underlying at the strike price. In most cases, an option that is ITM by as little as $0.01 will be automatically exercised at expiration.
- Assignment: If the option is exercised, the option seller is forced to sell (for a call) or buy (for a put) the underlying stock—called assignment. For a call, if the seller didn't already own the stock, they would need to buy the stock to fulfill assignment and deliver 100 shares per contract. So-called uncovered (or "naked") call selling has potentially unlimited risk and is not recommended for beginners.
Expiration-day scenarios
While many options trades are exited before expiration, these examples will share what would happen to a hypothetical option buyer and seller with open positions on expiration day.
Long call buyer
In this scenario, Trader A is the owner of a ZYX 55-strike long call. As the closing bell on expiration day nears, ZYX is trading at $59, giving the option $4 in intrinsic value. Because it's ITM, the contract may be automatically exercised, meaning Trader A would purchase 100 shares of ZYX at $55 (a discount from the current market price of $59).
While a good deal, acquiring ZYX for $55 would still require $5,500 in cash. Without the available cash to cover the purchase, the trader risks a margin call, which must be met by funding the account—usually on a tight deadline to avoid the broker liquidating other positions to meet the cash requirement. If Trader A didn't want to actually purchase ZYX shares—and merely bought the call as a speculative play—they'd want to close the option ahead of expiration to avoid automatic exercise.
Another option before expiration would be to roll the option to a later month and, depending on the trader's objectives, a different strike price.
A final alternative is a do not exercise (DNE) request, which a long option holder can submit if they want to abandon an ITM option. This isn't very common but can happen in situations where news comes out near (or even after) the close but before the expiration decision is due, typically 90 minutes after the close. In such a case, it's possible that a short ITM position might not be assigned.
Short call seller
Trader B sold the 55-strike call on ZYX, a stock they already own. They collected a $150 premium for the original sale and are willing to meet the obligation of selling ZYX shares for $55. As ZYX rises in advance of expiration, the call is solidly ITM and very likely to be assigned.
If an assignment notice is delivered, it's too late for Trader B to close their position. Instead, they must fulfill the terms of the options contract by selling 100 shares of ZYX for $55. This is an effective loss of $400 from the current market value of $59 but is offset slightly by the $150 premium collected at the beginning of the trade.
If Trader B didn't already own ZYX stock, they'd need to buy it at expiration to fulfill assignment (at the market price, or $59 in this example) and deliver 100 shares per contract (for $55). This scenario carries a risk of the stock price moving on news or other developments.
The guidelines below assume a position is held all the way through expiration.
| Expiration Scenario | Underlying stock price is higher than the strike | Underlying stock price is lower than the strike |
|---|---|---|
| Long call | ITM and typically exercised | OTM and typically abandoned |
| Short call | ITM and typically assigned | OTM and typically abandoned |
| Long put | OTM and typically abandoned | ITM and typically exercised |
| Short put | OTM and typically abandoned | ITM and typically assigned |
Note: In the case of put options, a long-put buyer has the right to sell the underlying shares at the strike price; the put seller has an obligation to buy.
The decision tree: How to approach expiration
As seen in the examples, both option buyers and sellers have choices as expiration nears. Depending on the circumstances, including the trader's goal and risk tolerance, any of these three basic approaches—do nothing, close early, or extend the time frame—might be effective.
1. Let the chips fall where they may. Some positions may not require intense scrutiny as expiration approaches. An options position that's far OTM at the start of expiration week will likely be abandoned, but occasionally an option that's been left for dead springs back to life. If it's a long option, an unexpected move ITM might feel like a windfall; the opposite is true if it's a short option that could've previously been closed for a penny or two.
2. Close it early. If the objectives for a trade have been met, it might be time to close it and avoid exposure to risks that aren't commensurate with any added return potential. Another scenario warranting an early close is an ITM option that could result in an unwanted stock position. Keep in mind, there's no guarantee there will be an active market for an options contract, so it's possible to end up unable to close an options position at or near a desired price.
3. Roll it forward. When a trader has an open position, rolling is essentially executing two trades as a spread—one leg closes out an existing option, and the other leg initiates a new position that is typically further in the future and may have a different strike price (or both). For example, suppose Trader B from before is still holding the short covered call on ZYX at the July 55 strike with the stock at $59. With the ITM call about to expire, they could attempt to roll it to the September 60 strike. Rolling strategies may include multiple contract fees, which may impact any potential return. The ability to roll is also dependent on a liquid market; there is a possibility that the desired expiration month or strike price isn't available.
Bottom line
Just like no one jumps out of an airplane and then tests the parachute, aspiring option traders should learn the ropes—especially around the nuances of expiration—before making a real trade. There's a lot to consider before and at expiration when it comes to intrinsic value, impending dividends, and a trader's individual objectives. A great way to start experimenting with options is by using the paperMoney® feature on the thinkorswim® platform. See how different strike prices react as expiration approaches, and experiment with different closing strategies—all without putting any real money on the line.
Learn more about the challenges and pitfalls of options exercise and assignment in our expiration-edition of Trader Talks.
Interested in trading options?
Options carry a high level of risk and are not suitable for all investors. Certain requirements must be met to trade options through Schwab. Please read the Options Disclosure Document titled "Characteristics and Risks of Standardized Options" before considering any option transaction. Supporting documentation for any claims or statistical information is available upon request.
With long options, investors may lose 100% of funds invested.
Short options can be assigned at any time up to expiration regardless of the in-the-money amount.
Investing involves risk, including loss of principal.
Hedging and protective strategies generally involve additional costs and do not assure a profit or guarantee against loss.
Commissions, taxes, and transaction costs are not included in this discussion but can affect final outcomes and should be considered. Please contact a tax advisor for the tax implications involved in these strategies.
This material is intended for general informational and educational purposes only. This should not be considered an individualized recommendation or personalized investment advice. The investment strategies mentioned may not be suitable for everyone. Each investor needs to review an investment strategy for his or her own particular situation before making any investment decisions.
All expressions of opinion are subject to change without notice in reaction to shifting market, economic or political conditions. Data contained herein from third party providers is obtained from what are considered reliable sources. However, its accuracy, completeness or reliability cannot be guaranteed.
Short selling is an advanced trading strategy involving potentially unlimited risks, and must be done in a margin account. Margin trading increases your level of market risk. For more information please refer to your account agreement and the Margin Risk Disclosure Statement.
The paperMoney® software application is provided for educational purposes only, and allows users to engage in simulated trading with hypothetical funds using live market data. Market activity, trade executions, transaction costs, and other elements presented in paperMoney are simulations only. Simulated performance does not ensure success in a live environment.