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I Need to Know When I’m Assigned. Why Is Option Assignment Notification So Screwed Up?

Posted by Pete Stolcers on October 22, 2007

Option Trading Question

I don't know if I am even directing this question properly, but I am trying to overcome the bs replies from various brokers and the option trade groups. How is it possible or justified that a call writer who is assigned on a Thursday or Friday is not be informed of it until it is too late to do anything other than buy shares in the open market to deliver, incurring a heavy loss? It seems to me this should be fought vigorously. Especially with spread positions the writer needs notice of the short leg assignment in time to exercise his long leg in order to acquire the shares at the strike price. Notice to exercise and notice of assignment should be required to be delivered by Friday morning and no later. Am I missing something here, except the advisability to always close out spread positions before expiration?

Option Trading Answer

This is a very complex topic to address because there are so many moving parts to . I will try to break my response down into a number of different areas.

First of all, let’s be clear.  We are talking about assignment on a stock option. Cash settled American-style options like the OEX is a completely different story and I’m not going to cover those complexities in this article.

When you sell options (covered or uncovered) you have obligations, no rights.  Before you consider selling an option, get used to the idea that you are powerless.  You do not control the situation, the option buyer does.

The naked call writer has unlimited risk.  If the stock skyrockets, eventually the writer will lose point for point with every dollar the stock rallies. The option short seller will never get assigned unless the option is in the money.  It must have intrinsic value and the option must not be trading with any time premium.  If the option is carrying premium above its intrinsic value, the option buyer will be better off selling the call in the open market than he will be exercising the call. If you don’t understand this statement you need to brush up on your option basics.

Let’s say that the option is trading at its intrinsic value. As the naked writer, you must know that you are at risk.  If you want to avoid assignment, you need to buy your call in. As far as risk is concerned, you don’t have any greater risk by being short the option or by being short the stock via assignment.  At this stage, every point that the stock moves higher, the options will increase in value by that same amount and so will your liability.  The delta of the position is -1 and you are effectively short the stock by being short the option.

In the case of a call credit spread, your risk is limited to the difference in the strike prices less the credit received. Let’s say that you sold the $50 calls and you purchased the $55 calls. The stock rallies and it is that $56 a few days before expiration.  If you get assigned on the $50 calls, you are short the stock at $50.  You can immediately exercise your right to purchase the stock at $55.  The end result is that you are selling the stock at $50 and buying it at $55.  You still get to keep the credit he received, so your risk profile has not changed due to assignment.  You have simply lost the maximum on this trade.  This same scenario will hold true no matter how high the stock goes.  It could go to $100 and your outcome would be the same.

Let’s say that you were assigned and you came in the next day and the stock dropped from $56 to $54 on the open.  If you are contesting that because of assignment you now lost money on your $55 call that you are long, you would be wrong.  The $55 call will lose value, but it has a lower delta then the stock. Let’s use some real numbers.  When you were assigned on the stock it was at $56.  You were short at $50.  When you come in the next day you are able to buy this stock and cover the position at $54, $2 less than it closed the day before. In this case you only lost $4 (not $5), plus you still own the $55 calls.  Clearly, in this case getting assigned actually helped you.

As you can see, getting assigned on one of the legs of your spread did not increase your position risk, it could only reduce it.  The maximum risk on a stock credit spread is the difference between the strike prices, plus the credit received.

Briefly, if you are in the spread on expiration Friday and one of the legs is closing right at the money and you don’t know if you are going to get assigned or auto exercised, close the spread. Otherwise, you might come in Monday morning with an unexpected position and that could increase your risk.  This was not a primary topic for this article, but I thought I would make reference to the situation.

To this point I have talked about how assignment on a naked short or a credit spread does not impact the risk profile of the position.  Now let’s talk about the assignment process and what a good brokerage firm should do to help you.

Option buyers have until the close to hand in their exercise notices.  The brokerage firms submit the exercise request to the Options Clearing Corporation (OCC). The OCC processes the request and uses a lottery system to determine which brokerage firms that have a short position will get assigned on the option.  They also determine how many contracts the firm will be assigned on. Overnight, the OCC notifies the brokerage firm and they need to review all other accounts that are short those options.  Through a standardized lottery system they determine which customers will be assigned.  As you can see the processes involved.

Once the brokerage firm allocates its assignment across the accounts, it should notify customers that this has taken place.  That notification can take any form.  I’m certain that in the age of electronics, brokerage firms put the responsibility on the customer to check the account on a daily basis.

As a customer, if you are assigned you will look in your account and see that you are short shares of stock if you were short calls.  Once the market opens you can either exercise the same number of calls or you can buy the shares as I described above.

During assignment, you have one day to adjust your position (the next business day) without incurring the additional margin required for a short stock position.  If you cover the position that day you are granted something called “same-day substitution” and you are not required to put up any additional margin.

As you can see, the assignment process is complex.  Where stock options are concerned, the assignment does not increase risk, it can only reduce it in the case of a spread.  It would be nice if a brokerage firm notified you as soon as they are allocating assignments, but I know that is not always the case.

Option Trading Comments

  • On 10/23, Warren Yost said:

    You perform a service that even the clearing house blog cannot compete with.  Thank you very much for this detailed answer.

  • On 10/23, Brandon said:

    Just wanted to add that some brokerages such as the one I work at actually give you untell 5:30 est on friday to notify us that they want to exercise. Also most people just don’t understand how much is involved in getting everyone settled. Not only do we have to notify everyone who got exercise notices, but also those who were auto exercised but dont have the money in there account to purchase there shares. Most of the time we have to call all of these customers back and that can be a long and painful process.

  • On 10/24, Warren Yost said:

    Duly noted, Brandon.  My vantage point is from one who initiates spreads, esp. vertical call debit spreads.  At expiration if I have not closed my position and both legs are in the money both parties will be auto-exercised whether I notify or now.  Two of my brokerage firms state that my long leg will be auto exercised and the shares sold to the counter party to fulfill my obligations on a same day substitution basis Friday evening and I will see the results in my account on Sunday, usually net positive.  If my acount lacks funds or margin for such transaction there will still be no margin call or penalty on a same day substitution basis.  What prompted my annoyance and inquiry was the fact that there still exist some brokerage firms that not only do not do this for their clients but do not even notify clients of assignment.  Apparently your house is client-positive and I appreciate all the work involved in keeping things whole.  Thanks for your comment.

  • On 03/26, Joe said:

    .08 In-The-Money Cost me $1333 on SPY assignment - UGH!!

    Here is how it worked:
    I had the following spread on at expiration March 20,2008
    10 - Long the SPY March 133 Put
    10- Short the SPY March 132 Put

    This put me im a position of wanting SPY to close below 132, it closed at 132.08, putting my short position 8 cents in the money. Yes, I was assigned some $131,900 of SPY on Saturday 3/22/08. This left me no option except to cover this position on 3/24/08.

    Yes, the SPY spiked up to 133.30 at the open 3/24/08. I had no choice except to cover at this price.

    LESSON LEARNED: Anything close to strike price-CLOSE IT OUT before giving the market a chance to destroy you.

  • On 03/26, Pete Stolcers said:

    I’m sorry to hear about your lesson.

    If you have many positions to monitor on expiration Friday, you can place orders to exit the options contingent on the stock trading above the strike price 10 minutes before the close. These order types are available at many brokerage firms.

    In doing so, you should avoid assignment and keep you from wasting money buying in options that expire worthless.

  • On 04/14, slick said:

    "The end result is that you are buying the stock at $50 and selling it at $55. “

    I believe this is a typo. It should be the other way around. In that example, the trader is selling at $50 and buying at $55, for a loss of $5 less the credit (net premium received).

    Thank you.

  • On 04/14, Pete Stolcers said:

    Hi Slick,

    Thank you for the catch! I have corrected the statement.

  • On 05/05, Adam said:

    I have a question....writer are the sellers...well, when covering calls, the just own the stock...If it’s a put they wrote and want it covered...They short the stock, correct?

    Thanx

  • On 05/05, Pete Stolcers said:

    When a put seller (short puts) is assigned, they come in long stock. The stock has been “put to them”. To unwind the position, they sell the stock.

  • On 09/15, Andrew said:

    I was wondering if you could also get assigned on the option sold in a ‘debit’ spread? and thereby have to come up with the capital for one day before exercising the option bought.

    I was trying to avoid getting assigned and heard that the same day substitution rule avoids this, but wans’t sure?

  • On 09/16, Pete Stolcers said:

    Yes you can get assigned. In a debit spread, it is great because you have maxed out. Simply exercise your long option - no margin required if you do it as soon as you are assigned.

  • On 10/18, mark said:

    If one is long puts and exercises it it pputs him in a short position.  What happens if you dont have 50 percent of the dollar amount needed to buy that volume of stock to cover your short position.  Does same day substitution alow you to buy it back immidietly with say 10 percent down using 90 percent margin or does the broker law out the money how does that work?

  • On 10/21, Pete Stolcers said:

    When you are short an option, you are not in control and the exchanges give you a grace period of one day to get out.

    When you are long an option, you are in control. You can’t knowingly put yourself into a position where you can’t cover the margin of the underlying. If you go through with the exercise and you do not post the required margin, you will have a Fed call. Your brokerage firm will restrict your account after that and prevent you from doing it again.

  • On 10/31, Gano Ramorino said:

    Joe says his short leg was ITM of.08 but it was a put so it was OTM of .08 or I miss something? Can you be assigned on a OTM option?
    Second: he says he was assigned $131900, what does it mean? That his account was charged of that amount?
    And what means he had to cover at 133.30 ?
    I’m asking this because I still don’t understand what’s the mechanism of the clearing. The short and the money are moved automatically by the broker? If it’s so
    what I understand of this example is that
    he was assigned and, I think, the amount of 131900 was put on his account at debt and the stock was put to him. Then on Monday he could sell the stock at 133.30 with a profit
    beeing still long a put.
    Again, probably I’m missing something.
    Could you explain?
    Thanks and best regards to all.

  • On 11/01, Pete Stolcers said:

    You are correct. The 132 put was OTM. He was expecting the SPY to finish below 132 and to get assigned. If that would have happened, he would have sold the SPY at $133 and bought it at $132 via auto-exercise/assignment. He wasn’t paying attention and the SPY rallied late, finishing aboe 132. Now he came in short the SPY at 133 Monday morning. The SPY rallied and he lost money.

    He should have closed the entire spread on Friday.

  • On 04/08, Pk said:

    Pete, concerning assignment in debit spreads you said:

    “Yes you can get assigned. In a debit spread, it is great because you have maxed out. Simply exercise your long option - no margin required if you do it as soon as you are assigned.”

    My question is: How will this then be reflected in your account? Will it simply show 2 expiring options or will it show a buy and simultaneous sale of equal number of shares in the underlying stock? Indexes, being cash settled will presumably show nothing (since the underlying is cash), or will it show a buy and a sale representing the cash equivalent transactions of the 2 sides?

    Also, I presume it makes no difference whether the exercise is automatic or explicit.

  • On 04/08, Pk said:

    Pete, concerning assignment in debit spreads you said:

    “Yes you can get assigned. In a debit spread, it is great because you have maxed out. Simply exercise your long option - no margin required if you do it as soon as you are assigned.”

    My question is: How will this then be reflected in your account? Will it simply show 2 expiring options or will it show a buy and simultaneous sale of equal number of shares in the underlying stock? Indexes, being cash settled will presumably show nothing (since the underlying is cash), or will it show a buy and a sale representing the cash equivalent transactions of the 2 sides?

    If it shows 2 transactions (buy/sell) on the same day for the same security, does this count as a day trade? If so, this could be dangerous for those with more than 3 such expiring spreads on a given expiration.

    Also, I presume it makes no difference whether the exercise is automatic or explicit.

    Thanks in advance for your insight.

  • On 04/08, Pete Stolcers said:

    The assignment and exercise will show up as a purchase of stock at one price and the sale of stock at another price. There is a rule that is called a same day substitution and it this transaction is not considred a day trade.

  • On 04/08, Pete Stolcers said:

    In a cash settled index, the options will reflect the exact value of the option that was exercised/assigned. For instance, if the index settles at $103.32 and you exercise the $100 call, you will be credited $3.32.

  • On 07/26, Jennifer Richards said:

    I am trading Iron Condors. My Question is Let say I sell a Spy position at 100.00 for a credit of 3.40 and Buy at 105.00. Let’s say that price moves to 104.00. The Seller now has the right to excercise his position. I cannot excercise my position at 105.00 to cover the assignment. What are my options.
    Another question . If Buyer had to pay 3.40 for the right to own the option at 100 and price got to 102.00, what are chances he would excercise his option to buy the stock.
    Would trading double calendars at the same strike be safer?

  • On 07/28, Pete Stolcers said:

    If you are short the $100 calls, you will come in short 100 SPY shares for every option contract you were short. You can buy the SPY shares the next day in the open market without having to put up the short margin for the SPYs. This is called a same day substitution. You would also want to sell the $105 calls for what ever you can get.

    Alternatively, you can buy the SPY shorts back and re-sell the SPY $100 calls.

    Assignment has NOTHING to do with where the positions were established. It simply has to do with the price of the option. If the option is trading at parity (intrinsic value), you run the risk of assignment.

  • On 09/11, Richard Murphy said:

    It is Sept 2009—if I sell deep in the money calls that expire in 1/2011, 16 months hence, what is the probability of call buyers exercising prior to 1/2011, particularly for stocks that pay a dividend.  If I’m the call buyer, even if the call is essentially 100% intrinsic, I see advantages to holding the call vs exercise - I have a leveraged position that goes up pt for pt with stock—I don’t have to put up additional cash to buy the stock —I can write calls against the position, all the joys of stock ownership without all that money tied up.  Only thing I don’t have is the dividend and the ability to hold the position (stock) forever.

    So —let’s say the stock pays roughly a 4% div and there are 5 divs to be paid between now and 1/2011.  Any way to find out the probability distribution of exercise between now and expiration by quintile?  An educated guess would be great as well as break out between day before going ex-div and all other dates? 

    More concretely.  Let’s say I just sold the Jan 2011 T 20 call —which is 99% intrinsic.  Assume T does not decline… what are the probabilities of assignment by,say, Jan 2010.  April 2010 etc?  Is there data on this?

    Help....

  • On 09/15, Pete Stolcers said:

    First you mention selling the calls, then you mention buying the calls. If you are a buyer, there is no assignment risk since you have to initiate the action. You simply hold the calls.

    If you are selling the T Jan 2010 calls the probability of assignment is close to 100% and it will probably happen the same day. They are bid $6.50 with the stock trading at $26.53. The Market Maker will buy the calls at a discount from you, sell the stock for $26.53, execrcise the calls and make an instant $.03 on the transaction. Even if you make it through the first day, you are likely to get assigned just before the stock goes X-dividend if it is trading at a discount. You might even get assigned if the call is trading at parity.

  • On 12/28, Andrew said:

    Hi Pete, very informative resources you have here.  Many thanks for your devoting time to sharing.

    I’m still confused about the sequence of events involving the $131,900 assignment of the short position.

    Assuming on the Friday of expiration, when the short put is assigned:

    1) Do I have to wire (in real cash) $131,900 to settle the assignment first?

    2) Can I just exercise the long call (assuming I did it just in time on Friday) and get credited the difference without physically wiring $131,900 cash to settle the assignment?

    Thank you in advance.

  • On 12/29, Pete said:

    If you are ever assigned on a short option, you have one day to exit the position (same day substitution) without having to put up any additional margin.

  • On 01/16, Shaggy said:

    If person Bob writes covered call Deep in the money and it is close to expiration (let’s say the 3rd Fri ) and the call is still DIM, then how likely will it be exercised provided that from the time the covered call was written till the expiration date, the price of the share has gone down along with the option price somewhat.

  • On 01/19, Pete Stolcers said:

    The only thing that matters is intrinsic value. If the option is trading at a discount, you run the risk of assignment. For instance, if you own a call that is $5 in the money and it is bid at $4.90, you run the risk of assignment. Rather than sell the call at a discount to a Market Maker, the holder of that call will buy the stock via option exercise and sell it for $.10 more in the open market. A person who is short that option will run the risk of assignmnet because the holder of the call exercised.

  • On 03/29, Ryan said:

    Something doesn’t seem right about this.  I was short the 115-116 call spread in SPY 55 times during March expiration.  I was assigned on the 115 call (the short part of my spread) on Thursday after the close (found out Friday morning).  This resulted in me being short 5,500 shares on Friday morning versus my long 55 116 calls.  On Saturday day, I was debited from my account a significant charge becuase I was short the shares when SPY went ex-dividend on that Friday.  Am I responsible for the entire dividend payment for that quarter because I was short the stock on that one day of ex?  Seems like stealing.  I feel like if I had bought the stock that day, there is no way I would have gotten credit for an entire quarter of a dividend payment.  Anyone know how this works?

  • On 03/30, Pete Stolcers said:

    Yes, the x-date was 3/19 and the dividend of $.48 would have been paid in full if you were short the stock that day.

    That is how it works. It is all paid on one day to the owner of the underlying and it is not pro-rated. You have to be very careful to watch dividend dates when trading options.

  • On 09/08, Andrew T said:

    Pete, thank you for providing valuable information on options.
    My question refers to trading condors with a large number of contracts (hypothetical-but need to know what would happen in the worst case scenario). Here it goes, say I open a credit spread with 100 short 103puts and 100 long 99puts (margin 40k-credit)

    Without going into more details, if assigned, since the account would not have enough funds to buy the underlying, would the broker automatically exercise my long puts? Thanks.

  • On 09/10, Pete Stolcers said:

    Your broker will not auto exercise your long puts. They will contact you and you will have the day to unwind the position. If the position is all the way through both strikes and the options are trading at parity, you might just exercise the long puts. If the long put is still out of the money or it carries time premium, you will want to sell the stock you were assigned and sell the long put. I would not re-sell the put you were assigned on. It is obviously in the money and you will probably be selling it at a “discount”. That means you will get assigned again very soon, perhaps the next day.

    If you broker does not hear from you that day, they will unwind the position. The account agreements you signed allow them to do that to satisfy margin requirements.

  • On 09/16, Andrew T said:

    Pete,
    Thank you very much for the reply. I believe with IB there might be a somewhat different procedure where they might liquidate positions in the first few minutes of the trading session (as opposed to giving the customer the entire day - as per “same-day substitution” explanation provided above). In any case, one way to mitigate this risk might be to distribute the trading volume among several brokers. Thanks again.

  • On 02/17, Joe F said:

    New to options so might be a dumb question but here goes.

    I set-up a bull call spread as follows:
    Bought 10 Mar 11 CNQ 44.0 call @ 3.03
    Sold 10 Mar 11 CNQ 48.0 call @ 1.08
    Total cost incl commission $1975

    Assuming CNQ trades above $48 in the next few days (currently 47.55), do I have to actively do anything to lock in the profit or do the contracts both get assign and execute automatically? If I figure right, that would net a profit of about $2025 whereas selling and buying the 2 legs to close would only result in about $400-500 profit.

    Thanks for any help you can give the newbie.

  • On 02/17, Pete Stolcers said:

    If the stock is above $48 after the close on expiration Friday, you will go through auto exercise/assignment and you don’t have to do anything.

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