Risk-free option trade or I am missing something?

[Martinghoul]

ah okay then this is where I lost you. I have no idea what option assignment is lol. Is this unique to American options?

Option assignment is a fancy name for what happens when you're short and the option gets exercised. And no, it's not unique to American options and not unique to physically-settled options. However, it really only matters and is a real risk for physically-settled options.

 

[grass_hopper]

@Martinghoul:
On the subject of assignment.
Let's say I established a Dec11 bull call spread (117/121) on SPY when SPY was at 116 (2 weeks ago or so). Let's say I hold it until expiration and SPY ends next Friday at 126. My spread is worth $4 at that point. However, I don't have enough funds on my account to either exercise the long option or get assigned on the short one and I did not sell the spread before close.
The margin requirement for the debit spread is the cost of the spread, so technically, I may not have any other equity in my account except for the spread value. What would a broker do? Will it exercise/assign automatically using their funds or something else?

 

[Jerry Westerby]

...Personally, I would do this trade and run the risk. But I wouldn't bet the farm, 'cause, in my experience, these cheap lunches sometimes contain poison....

so, at long last, a trade comes up on T2W that you would do yourself.......

SOUND EFFECT DRUM ROLL - YouTube

:?::?::?::?:

 

[Martinghoul]

@Martinghoul:
On the subject of assignment.
Let's say I established a Dec11 bull call spread (117/121) on SPY when SPY was at 116 (2 weeks ago or so). Let's say I hold it until expiration and SPY ends next Friday at 126. My spread is worth $4 at that point. However, I don't have enough funds on my account to either exercise the long option or get assigned on the short one and I did not sell the spread before close.
The margin requirement for the debit spread is the cost of the spread, so technically, I may not have any other equity in my account except for the spread value. What would a broker do? Will it exercise/assign automatically using their funds or something else?

Well, generally speaking, it's broker-dependent, so the rule's always "read the small print in the Terms & Conditions". In seriousness, given I got bitten by this a couple of times (not specifically in options), I can't emphasize this enough. If in doubt, call the broker and get them to confirm their procedure and to point out where it's available in writing.

As far as I know, the standard procedure for most brokers would be to do the exercise/assignment as per standard procedure, issue a margin call and/or then immediately liquidate the resulting position (if any) at mkt. So, really, it shouldn't normally be a massive issue, unless the broker is consciously looking to screw you over. Or if there's a genuine honest-to-god pin. But you should most definitely confirm with the broker how all these things work. Moreover, make sure you confirm with them the various cut-off times for when you have to inform them about your decision to exercise. Same for when they have to inform you about assignments.

In general, if you wanna talk to some proper equity options mavens, EliteTrader options forum has a few. They may have different opinions/views on this stuff than myself and they would probably be more knowledgeable.

 

[Martinghoul]

so, at long last, a trade comes up on T2W that you would do yourself.......

SOUND EFFECT DRUM ROLL - YouTube

:?::?::?::?:

Actually, a few trades I would do (and have done) have come up during my tenure here...

 

[Jerry Westerby]

Actually, a few trades I would do (and have done) have come up during my tenure here...

ooh ooh can you remember what threads they were on..??

 

[Martinghoul]

ooh ooh can you remember what threads they were on..??

No, sorry... Last one has been a long time back. I remember we had a discussion of some nice short sterling trades. Most of what I do is rates stuff, so your best bet is probably in the "Money Mkts" forum.

 

[Martinghoul]

Guys, come on! I am a nice guy! Did I not give you what you wanted, what you really-really wanted, scose?

 

[Jerry Westerby]

 

[Martinghoul]

you don't get the p1ss taken out of you often enough.

That's 'cause you don't know my wife...

 

[Martinghoul]

Are you trying to set me up?

No, 'cause I know you're a ladies man and you don't need my help... At any rate, shall we stop polluting this excellent thread with our inane chatter?

 

[ColoradoLew]

Wait a minute . . . looking at the scenario if SPY stays at 126 or so:
You could lose on BOTH sides of this trade and take a big loss if you let it go to auto expiration-assignment.

Regarding the calls, you would be assigned the 124 call, needing to deliver SPY at 124 and your long leg being 128, you'd lose $400.00 per contract. You'd be selling at 124 and buying at 128!

Additionally, you'd have SPY put to you at 128 as that is the strike price of your short put, and your long leg being 124, you'd be buying SPY at 128 and selling it at 124, another lose of $400.00 per contract!!

The result would not be favorable until SPY either rose above 128 or fell below 124. So, this would likely be a catastrophe for whomever placed the trade with real money. It would be much worse than just the pin-risk that was discussed in an earlier post if SPY stayed relatively flat!