Deep in the money options

[safvan]

Can we sell to close a call option which is very deep in the money one month before expiry when there is no open interest and volume for that particular option?

Thank you.

 

[scose-no-doubt]

you'd get quoted sh*t if there was no liquidity.

 

[Martinghoul]

Yes, you can, but you won't like the bid/offer. So you might as well sell the delta and wait for expiry (to be sure, this isn't exactly, 100% equivalent, but it's perfectly fine for an overwhelming majority of cases).

 

[safvan]

So if deep in the money options are bad for quotes why do people buy long term call options?

And how bad is bad for qoutes? if you lose a $1 or so on something where you are $15 in the money it is still a good bet aint?

 

[Martinghoul]

So if deep in the money options are bad for quotes why do people buy long term call options?

'Cause if you're right and the option has gone deep in the money, you don't have to actually sell it to realize your PNL. You can either sell the underlying, as I mentioned before, or you can just wait for the option to expire.

Explain to me why you feel so compelled to sell the option?

 

[QuestOptions]

these are all great points....

one thing that u can consider if you are worried about protecting your position is to simply sell a put at the same strike as your deep in the money call and sell the underlying.

This is called a reversal...by doing it you have basically locked in your profits/losses (can't lose or make anything anymore).

 

[Martinghoul]

these are all great points....

one thing that u can consider if you are worried about protecting your position is to simply sell a put at the same strike as your deep in the money call and sell the underlying.

This is called a reversal...by doing it you have basically locked in your profits/losses (can't lose or make anything anymore).

I woudln't recommend doing that, personally... Firstly, it's likely to be worse in terms of bid/offer. Secondly, you might end up going through some uncomfortable moments if the options are physically settled and you happen to be pinned at your strike arnd expiry.

 

[safvan]

'Cause if you're right and the option has gone deep in the money, you don't have to actually sell it to realize your PNL. You can either sell the underlying, as I mentioned before, or you can just wait for the option to expire.

Explain to me why you feel so compelled to sell the option?

Sorry I am a bit new to this. What happens exactly if the following scenario is under way

I had $5000 in the trading account. A stock called with symbol SEX is currently trading at $100 and its the 1st of January. I assume that it would increase at least 20% within 6 months. So I buy $120 june call option for say $1.

I have $2000 to spare on this transaction. I can buy 20 contracts for the given option price. This way I am potentially controlling stock worth $200,000 for only $2,000.

Now it is 29th June and the price of the stock is at $250. I am way deep in the money.

What are my choices here?

1. Do I excercise? but I do not have the money in the account to pay for it. I still only have $3000 from my $5000 account.

2. Do I let it expire? What happens when it does that?

What would be my options for this option?

:idea:

 

[Martinghoul]

Firstly, let me say that I like the choice of ticker.

Secondly, you can do one of two things:
1) On the day before expiry (for example), sell SEX at $250 in 20 shares. You will receive $500,000, if my arithmetic is correct. When your option expires, you will buy SEX at $120, which, coupled (pun intended) with the above, will mean you end up flat SEX, but long muchos dollares.

2) If you do nothing, on the day of the expiry your broker will expire the option and buy 20 shares of SEX at $120 for you. Once they realize that you don't have the money to pay for SEX, they will either issue you a margin call or liquidate your position in the mkt (by selling SEX at the current mkt price, e.g. $250) or both. The specifics depend on the particular broker and their procedures. However, if your option has gone DITM and has made you a lot of money, you're likely to get that money one way or another. How it happens and who controls the process is up to you and your particular arrangements with your broker.

 

[QuestOptions]

I woudln't recommend doing that, personally... Firstly, it's likely to be worse in terms of bid/offer. Secondly, you might end up going through some uncomfortable moments if the options are physically settled and you happen to be pinned at your strike arnd expiry.

lets do an example: trader buys a 100 call of xyz the underlying is trading at 100.

say the market explodes to 110 and your 100 call is now deep in the money. In some markets deep in the money options are not very liquid.

The trader has a profit on there call options but is worried about losing some due to lack of liquidity and a wide bid ask spread.

If the trader sells the 100 put (otm of the put, which may have better liquidity, in many markets otm options are more liquid than itm options).

and sells the underlying (which should be very liquid). by doing this they have locked there position. they cant make or lose anything else.

the new position is: short the underlying @ 110/(-)100put/(+)100c

i am by no means recommending this as a strategy but a position like this is easier for the market maker to handle in my opinion.

of course this is a very broad example....each product has its own nuances.

 

[scose-no-doubt]

you mean sell 20 250 calls? Buy puts?

 

[Martinghoul]

You're right, QO... I am not suggesting that the combination you're referring to is not equivalent to being effectively flat at every point of time before expiry. My points are:
a) selling just the underlying delta out is cheaper, bid/offer and commission-wise, and also implies that, for all effects and purposes, you're flat, similar to your suggestion;
b) the conversion that you propose exposes you to the possibility of losing money on the expiry, if the options are physically-settled and you end up pinned at your strike. Obviously, it's not very likely in the case that we're discussing, but it's not impossible. So I normally try to avoid getting into these conversions in the first place, 'cause you just never know.

 

[Martinghoul]

you mean sell 20 250 calls? Buy puts?

Who you be asking? Me?

 

[scose-no-doubt]

aye

 

[safvan]

Firstly, let me say that I like the choice of ticker.

Secondly, you can do one of two things:
1) On the day before expiry (for example), sell SEX at $250 in 20 shares. You will receive $500,000, if my arithmetic is correct. When your option expires, you will buy SEX at $120, which, coupled (pun intended) with the above, will mean you end up flat SEX, but long muchos dollares.

Are we able to sell that amount with only $3000 in the account remaining?

 

[Martinghoul]

Are we able to sell that amount with only $3000 in the account remaining?

I dunno, mate, I ain't your broker... I don't see why you shouldn't be able to, given the nature of your position, but it's 100% dependent on your particular arrangements. But, if you have to post a bit more margin for a day or two to realize your humongous profit, what's the big deal? If the $3000 in your account is the last money you have on Earth, you got bigger issues.

 

[Martinghoul]

aye

I never said nuthin' about selling no calls. That was QO who was suggesting a conversion. I just suggested to sell the delta, i.e. sell the underlying.

 

[safvan]

I dunno, mate, I ain't your broker... I don't see why you shouldn't be able to, given the nature of your position, but it's 100% dependent on your particular arrangements. But, if you have to post a bit more margin for a day or two to realize your humongous profit, what's the big deal? If the $3000 in your account is the last money you have on Earth, you got bigger issues.

I was trying to understand the concept as to how the broker would be able to let me sell 250 20 contracts when I have only $3000 to put up. The zeroes do not really matter here. How would 300,000 USD remaining do with say a $20 Million Dollar unrealized profit? because then again it would be up to the broker to let me do that?

If there is no hard and fast rule to sell options then waiting for ditm expiry is the only option for it..thoughts?

 

[Martinghoul]

I was trying to understand the concept as to how the broker would be able to let me sell 250 20 contracts when I have only $3000 to put up. The zeroes do not really matter here. How would 300,000 USD remaining do with say a $20 Million Dollar unrealized profit? because then again it would be up to the broker to let me do that?

If there is no hard and fast rule to sell options then waiting for ditm expiry is the only option for it..thoughts?

Well, listen, there's definitely no hard and fast rule, but there is common sense. Your account is sitting there with unrealised PNL of $20 million from basically being long SEX and you're looking to sell SEX the day before expiry to effectively flatten yourself. I have a very hard time imagining a sensible broker deciding to get ar*sy about the margins. It certainly won't happen with a broker who does portfolio margining. However, I don't want to tell you things that may turn out to be false and you always have to read the fine print. In general, it's relatively safe to assume that you'll be able to realize the money you've made, one way or another. So I suggest that you stop worrying about the dinky technical details for the moment and concentrate instead on how you're gonna be making the money in the first place.

 

[safvan]

Well, listen, there's definitely no hard and fast rule, but there is common sense. Your account is sitting there with unrealised PNL of $20 million from basically being long SEX and you're looking to sell SEX the day before expiry to effectively flatten yourself. I have a very hard time imagining a sensible broker deciding to get ar*sy about the margins. It certainly won't happen with a broker who does portfolio margining. However, I don't want to tell you things that may turn out to be false and you always have to read the fine print. In general, it's relatively safe to assume that you'll be able to realize the money you've made, one way or another. So I suggest that you stop worrying about the dinky technical details for the moment and concentrate instead on how you're gonna be making the money in the first place.

Good Advice. Thanks for the inputs. Much Gratitude.