Assignment, Exercise, and Expiration Logistics

When an option holder exercises their right, the Options Clearing Corporation (OCC) randomly assigns the obligation to a short option holder. Understanding these mechanics helps traders manage positions through expiration and avoid unexpected outcomes.

Definition and Key Concepts

Exercise

Exercise occurs when an option holder converts their option into the underlying position. For equity options:

• Exercising a call: The holder buys 100 shares at the strike price
• Exercising a put: The holder sells 100 shares at the strike price

Holders initiate exercise by instructing their broker before the exercise deadline, typically 5:30 PM ET on expiration day for equity options.

Assignment

Assignment is the obligation placed on a short option holder when someone exercises. When assigned:

• Short call holders must sell 100 shares at the strike price (or buy to cover if short)
• Short put holders must buy 100 shares at the strike price

The OCC uses a random selection process to assign exercised contracts among all short holders of that series.

Expiration

Options expire on a specific date and time. For standard monthly equity options, expiration occurs at market close (4:00 PM ET) on the third Friday of the month. Weekly options expire each Friday. After expiration, unexercised options cease to exist.

How It Works in Practice

Auto-Exercise Rules

The OCC automatically exercises equity options that are in-the-money by $0.01 or more at expiration. This threshold is called the exercise-by-exception threshold. Holders can instruct their broker to:

• Exercise an OTM option (unusual)
• Not exercise an ITM option (do-not-exercise instruction)

Auto-exercise applies unless contrary instructions are received by the deadline.

Exercise and Assignment Timeline

Early Assignment (American Options)

For American-style options, assignment can occur any business day before expiration. Early assignment is most common when:

• Options are deep in-the-money with minimal time value
• A dividend is imminent (for calls)
• Interest rate considerations favor early exercise (deep ITM puts)

Short option holders discover assignment when checking their account—there's no advance warning.

Cash Settlement vs. Physical Delivery

Physically-settled options (most equity options) result in stock changing hands:

• Exercised calls: Buyer receives shares, seller delivers shares
• Exercised puts: Buyer delivers shares, seller receives shares

Cash-settled options (most index options) result in a cash transfer equal to the in-the-money amount. No underlying shares change hands because index shares don't exist.

Worked Example

Scenario: Long Call at Expiration

You hold 1 XYZ $50 call option. XYZ closes at $53 on expiration Friday.

• Strike Price: $50
• Stock Price at Expiration: $53
• ITM Amount: $3.00 per share
• Contract Controls: 100 shares

Outcome: The OCC auto-exercises the option. On Monday, your account shows:

• +100 shares of XYZ at $50 (cost basis)
• Account debited $5,000 (100 × $50)
• Shares worth $5,300 at Friday's close

If you had paid $2.50 per share ($250) for the option, your net profit is: ($53 - $50 - $2.50) × 100 = $50

Scenario: Short Put Assignment

You sold 1 ABC $40 put for $1.50. ABC closes at $38 on expiration Friday.

• Strike Price: $40
• Stock Price at Expiration: $38
• ITM Amount: $2.00 per share
• Premium Collected: $1.50 per share

Outcome: The OCC assigns the put. On Monday, your account shows:

• +100 shares of ABC at $40 (cost basis)
• Account debited $4,000

Your effective cost basis is $40 - $1.50 = $38.50 per share. With ABC at $38, you have an unrealized loss of $0.50 per share ($50 per contract).

Risks, Limitations, and Tradeoffs

Margin and Capital Requirements

Exercise and assignment trigger stock transactions that require capital or margin. If you don't have sufficient buying power:

• Your broker may sell the assigned shares immediately
• You may face a margin call
• Some brokers close positions before expiration to avoid this risk

Pin Risk

When the underlying closes very near the strike price at expiration, uncertainty exists about whether assignment will occur. This creates pin risk—the stock may move after hours, changing exercise decisions. Traders with short options may or may not be assigned, creating unpredictable outcomes over the weekend.

After-Hours Movement

Stock prices can move significantly between market close (4:00 PM) and the exercise deadline (5:30 PM). An option that's in-the-money at 4:00 PM may be out-of-the-money by 5:30 PM (or vice versa). Holders can submit last-minute exercise instructions based on after-hours prices.

Dividend-Related Assignment

Short calls on dividend-paying stocks face elevated assignment risk before ex-dividend dates. Deep ITM call holders may exercise early to capture the dividend. If assigned, short call holders must deliver shares and miss the dividend.

Common Pitfalls

1. Insufficient capital for exercise: Ensure you have funds to cover stock purchases if long calls are exercised or short puts are assigned.

2. Forgetting about pin risk: Close or roll short positions that are near the strike before expiration to avoid uncertainty.

3. Ignoring after-hours price action: Monitor extended hours if you have expiring ITM positions that you don't want exercised.

4. Assuming assignment equals automatic loss: Assignment isn't inherently bad—it depends on your cost basis and strategy.

5. Missing exercise deadlines: Understand your broker's cutoff times. They may be earlier than OCC deadlines.

Checklist for Expiration Week

• Identify all positions expiring this week
• Determine which options are ITM, ATM, or near-the-money
• Calculate capital needed if long calls exercise or short puts assign
• Check upcoming ex-dividend dates for short call positions
• Decide whether to close, roll, or let positions expire
• Confirm your broker's exercise instruction deadlines
• Plan for pin risk if strikes are near current prices
• Monitor after-hours trading if you have expiring ITM options

Next Steps

Understanding settlement mechanics helps you anticipate what happens at expiration. For options that result in physical delivery versus cash payment, see Physical vs. Cash Settlement Differences.

For background on how moneyness relates to exercise decisions, review Understanding Moneyness and Delta Exposure.