I trade a lot of credit spreads, so when the market does what I expect, I often have a lot of worthless options as I near expiration. I typically close these to free up the margin for use elsewhere, but between the spread and commissions, I'm often looking at 10% of the maximum profit I could otherwise take if held till expiration. I'm comfortable with the risks of assignment, and often just put a contingent order on the underlying within 0.XX of the strike to close with a market order for the waning hours of its life. I keep a float in my account that is basically the cash I have for next months bills--so the risk level on this is cash, and losing this would cause a cascade of undesirable problems. But this would be sufficient to cover the spreads on the expiring options. So, if I keep these expiring options open through Friday's close, with a contingent order if the ask gets anywhere near the strike (...say 99.80 with a $100 strike on a $2 spread), is there a chance the market close order could not get filled as the price shot passed it? Like could a massive order come in on the closing bell, and push it to $100.02. Then the nightmare scenario is that I get assigned and am holding a short position while it gaps to $104 the following Monday wiping out my entire trading account. So, am I guaranteed a fill in this scenario? Is there any risk I'm overlooking? For clarity, here's the sample closing order for ABC at 99.50: if ABC ask > 99.80 place market buy close on ABC May 19 $100 call
You also have a risk of assignment due to after hours trading. For example the stock could close below 99.80, but news comes out after the close and it is trading higher causing someone to exercise the 100 calls that you thought were safe. Options can be exercised up to 530pm ET.
Wow, I did not know that one. That moots my question entirely. I cannot believe how hard it was to find that info. You would think that should be front-and-center of the options risk disclosures. Attorneys should be barred from writing any disclosure that any normal person has to read. They speak so much and say so little.
Good catch FSU!. Forgot about that one! I am sure somewhere there are traders that specialize in these after hours play... Buy contracts at .03 .. sit on it, wait for news then exercise before 5:30pm and make tons come Monday. A while back, we had provisions for buying back short contracts on softs options shorts by writing down our names on a piece of paper willing to pay $1 to retire our shorts (called cabinet bids) , the seller to us retires their longs in return for $1 ... 99% of the time nothing happens .till someting happens between 2 and 5:30pm. google Rule 6.8 accomodation transactions. just found this on Google. Rule 6.80. Accommodation Transactions (Cabinet Trades)
You don't even need the possibility of after hours trading... if any news regarding the stock comes out before the exercise-window closes... any holder of options should take that into account. For instance, even if there is no after hours trading, when after close news comes out of your stock being a takeover target... I would exercise long calls, depending on rumours/takeover price/etc it could go from 5% above close to 20%...
Good point JackRab. IMHO, this is more critical for the short put holders since we are already at lofty levels in the US Equities and downdrafts tend to be harder than up moves.
No, a downward drift isn't going to be of much impact on expiry, that moves too slow... the black swans are more important. And then only if any news like that comes out within the exercise time window. Also, it's not only about the OTM but also ITM options! You can still opt out....
I forgot about that opt out.. I guess it is auto ex if itm by .01 right? then you have to call your broker and explicitly say I don't want to exercise that itm option?
Can you explain that further for me? And also, isn't after hours trading relevant? I mean, if you can buy cheaper than exercise, there's no reason to exercise...unless the strike splits the spread below mid-point.
After hours trading is definitely relevant, as is big news. I used to do this play a lot in the VXX. For example if the VXX is at 13.97 just before the close on expiration day and the 14 calls are trading .02. I would buy the calls with the hope that I could sell VXX at above 14.02. VXX would move with the Eminis, so even a small move would affect the VXX. If it traded up I would sell it and exercise the calls. I would have a cheap shot for the next hour and a half. You could do this play with any stock that might move a bit after hours, which can happen even without news.