The three things I will discuss in this section are expiration, exercise and assignment. Whether you are an options buyer or seller you will want to make sure you understand these terms and how it affects your trades. It is also absolutely critical that you have a conversation with your broker about their policies relative to these three issues.

In this lesson I will discuss a few basic rules you can rely on; but policies will vary from one broker to another. Rules can also change periodically and, typically, your broker will notify you of these changes. But you need make sure you pay attention and read thee notifications when you receive them.

Expiration:

All options have a countdown timer attached to them. A put or call option will only last until its expiration date on the third Friday of its expiration month. That means that if your option expires in January of 2009 then the actual expiration date is 1/16/2009. Once expiration has passed the option no longer exists and is worthless. Therefore, most of your trades should be completed before the expiration date. This is usually not a problem if you buy an option with an adequate amount of lead time. When executing a trade think about giving yourself enough lead time to let the trade “work itself out.”

Exercise:

I have already discussed the fact that a call is the right to buy a stock, before expiration, for the strike price; and, a put is the right to sell a stock, for the strike price, before expiration. “Exercising” an option is what happens when you actually buy or sell the underlying stock.

Most options traders never exercise their options. That is because the option can be sold on the open market before expiration without having to go to the trouble of exercising. In the video we will go show you a little more detail on this concept. However, if you decide that you do want to exercise your option you will need to call your broker and arrange the transaction directly with them.

If you still own your option and it is “in the money” on expiration Friday your broker will likely exercise your option automatically. That means that if you owned a single call option with a strike of $20, and the stock is currently worth $25, and you have not exited that option position before expiration, then you will find 100 shares of that stock in your account at a price of $20 on the following Monday. Be careful because if you do not have enough cash to cover this purchase your broker may charge you a hefty fee.

Many brokers will automatically exercise your options if you still own them at expiration and if they are $.01 or more in the money. This is why it’s important to understand your broker’s policies, benchmarks and fees associated with options exercises.

Assignment:

This is an issue that option writers deal with. Writing, selling or shorting options is something that we will deal with extensively in the next two options courses starting with covered calls. An options trader who is only buying and then selling a put or call does not need to worry about assignment.

Assignment will happen to an options writer or seller when the buyer decides they want to exercise that option. For example, if you wrote, or shorted, a call and the buyer then wanted to exercise that option, you will be responsible for delivery of the stock. Having to fulfill on this obligation is called “assignment.”

Watch the video below then proceed to The Chain Sheet