Options Exercise, Assignment, and More: A Beginner's Guide

So your trading account has gotten options approval, and you recently made that first trade—say, a long call in XYZ with a strike price of $105. Then expiration day approaches and, at the time, XYZ is trading at $105.30.

Wait. The stock's above the strike. Is that in the money¹ (ITM) or out of the money² (OTM)? Do I need to do something? Do I have enough money in my account? Help!

Don't be that trader. The time to learn the mechanics of options expiration is before you make your first trade.

Here's a guide to help you navigate options exercise³ and assignment⁴—along with a few other basics.

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. 

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. 

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. 

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.

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.