Q&A
Explore Your Options
| Got a question about options? Tom Gentile
is the chief options strategist at Optionetics (www.optionetics.com), an
education and publishing firm dedicated to teaching investors how to minimize
their risk while maximizing profits using options. To submit a question,
post it on the STOCKS & COMMODITIES website Message-Boards.
Answers will be posted there, and selected questions will appear in future
issues of S&C. |
Tom Gentile of Optionetics |
EXPIRATION QUESTION
What happens if I hold my put option until expiration and forget
to close it out? Is there anything I can do after the fact?
The short answer is that once expiration has passed, the contract no
longer exists and there is nothing left to do. But keep in mind two things
can happen to an open option contract at expiration: It expires worthless
or it is subject to automatic exercise.
If an option has no intrinsic value at expiration, it will expire worthless
and cease to exist. If XYZ is trading for $51 a share heading into January
expiration, the XYZ January 50 put will have no intrinsic value and expire
worthless. It is out-of-the-money (OTM). After all, why would someone pay
for the right to sell or "put" XYZ for $50 a share, when it can be sold
in the market for $51? A call option will expire worthless if the strike
price of the option contract is greater than the stock price. In that case,
the option holder has no need to buy or "call" the stock at the strike
price of the option. It would be cheaper to buy the stock than through
the exercise of the option contract.
So one scenario for the put option is that it is OTM, has no intrinsic
value, and expires worthless. There is no point in exercising that option.
Options that do have intrinsic value will not expire worthless, even
if the option holder forgets to exercise the contract. If the option is
in-the-money (ITM), it will be subject to automatic exercise. The Options
Clearing Corp. (OCC) has created a rule that states that all options with
intrinsic value at expiration should be automatically exercised. The rule
ensures that investors don't inadvertently leave money on the table when
the option expires. If XYZ is trading for $49 a share at January expiration,
the January 50 put will be exercised and for every put option, 100 shares
will be sold at $50 even if the strategist has not requested that the option
be exercised. If XYZ is trading for $51 a share, the XYZ 50 call will be
exercised and 100 shares of XYZ will be bought at $50 a share for every
call contract.
As of the October 2006 option expiration, the threshold for automatic
exercise was lowered from 25 cents to a nickel. If the option contract
is ITM by less than a nickel, it will expire worthless. But if the option
is in-the-money by a nickel or more at expiration, it will be automatically
exercised.
If the strategist doesn't want the option exercised, they can either
close the position before expiration or send a request instructing the
broker to not exercise the option. If this is important to you, ask your
broker what needs to be done to avoid automatic exercise. The exact procedures
may vary.
AFTER THE BELL
When does after-hours trading begin and when does it end?
Options do not trade after hours, but stocks trade on ECNs before and
after the exchanges are open for normal trading. Right now, some brokers
offer trading from 8:00 to 9:30 am and 4:00 to 6:00 pm Eastern time. Check
with your broker to see if they offer after-hours trading and if so, what
ECNs they send orders through.
Keep a few points in mind. ECNs simply match buyers and sellers and
execution is not guaranteed. If there is no natural seller for a buy order,
it will not get executed. Different prices can exist on competing ECNs.
The after-hours market is less liquid than when the exchanges are open.
The result can be greater volatility and bigger price moves in individual
stocks. For that reason, it is better to place limit orders rather than
market orders when looking to buy or sell shares when the exchanges are
closed.
‘TIS THE SEASON
Do you use seasonality in your trading? If so, what is an example?
"Seasonality" refers to the fact that certain asset prices tend to rise
or fall during certain times of the year. The strong period for stocks,
for example, lasts from November to May, and that pattern has given rise
to the saying "Sell in May, then go away." Seasonality is stronger in the
commodities markets. Natural gas prices rise in the autumn ahead of the
cold winter months. Many grains show strong seasonal patterns. Seasonality
is important and interesting, but not enough to work with. It is best combined
with other forms of technical and fundamental analysis.
A LITTLE CONFUSED
In your November 2006 STOCKS & COMMODITIES column, you state:
"Say XYZ is trading for $50 a share and I buy the XYZ December 55 call
for $2.50 a contract. Now suppose XYZ shares rally 10% to $55. In that
case, the strategist has a profit of at least $2.50 a contract, which is
equal to the current stock price ($55) minus the strike price (50) minus
the cost of the trade $2.50..."
Assuming the first sentence is correct and does not contain a typo,
the situation is a 55 call purchased for $2.50, the underlying then increases
10% to $55 a share. The position is now at-the-money.
You are correct. The November 2006 "Explore Your Options" contained
a typo. The strike price in this example is 50 and the first sentence should
have read, "December 50" call instead of "December 55." Thank you for being
an astute reader and bringing it to my attention.
Originally published in the January 2007 issue of Technical Analysis
of STOCKS & COMMODITIES magazine. All rights reserved.
© Copyright 2006, Technical Analysis, Inc.
Return to January 2007 Contents
