{"id":84529,"date":"2021-04-20T10:58:00","date_gmt":"2021-04-20T14:58:00","guid":{"rendered":"https:\/\/ibkrcampus.com\/?p=84529"},"modified":"2023-02-10T13:33:09","modified_gmt":"2023-02-10T18:33:09","slug":"understanding-special-exercises-and-pin-risk","status":"publish","type":"post","link":"https:\/\/www.interactivebrokers.com\/campus\/traders-insight\/securities\/options\/understanding-special-exercises-and-pin-risk\/","title":{"rendered":"Understanding Special Exercises and Pin Risk"},"content":{"rendered":"\n<p><a href=\"\/campus\/traders-insight\/securities\/crypto\/id-bet-bitcoin-had-a-wilder-weekend-than-you-did\/\">In yesterday\u2019s piece, I alluded to the concepts<\/a> of special exercise considerations and pin risk for options holders upon expiration.&nbsp; Understanding them is crucial for anyone who trades or invests with options, yet I have never fully explained those concepts.&nbsp; Let\u2019s rectify that oversight now.<\/p>\n\n\n\n<p>If you are trading options, you need to be aware of special exercise considerations.&nbsp; The Options Clearing Corporation (OCC) will automatically exercise an expiring option that is in the money by $0.01 or more.&nbsp; For example, if you have an expiring call option with a $50 strike, and the stock closes at $50.01 or more, OCC will exercise it automatically.&nbsp; A put option with the same terms would be automatically lapsed.&nbsp; But there is an important feature that is not well-understood.&nbsp; <strong>An options holder can offer contrary instructions<\/strong>.&nbsp; The automatic exercise feature provides convenience to both the holder and the broker\/dealer, but it does not remove any optionality from the holder.<\/p>\n\n\n\n<p>It is crucial to remember that <strong>an options holder retains the right but not the obligation to buy or sell the underlying security until the option expires<\/strong>.&nbsp; It is also crucial to remember that options expiration occurs well after the market closes (5:30 eastern for US options, 4:30 eastern for Canadian \u2013 <a href=\"https:\/\/www.interactivebrokers.com\/en\/index.php?f=1567\">see here for more<\/a>).&nbsp; What it means in theoretical terms is that there still may be some residual value to the option even though it is no longer tradeable.<\/p>\n\n\n\n<p>If a stock or ETF moves up or down through a strike in the after-market, the option holder has the opportunity to offer contrary instructions.&nbsp; That can include lapsing a long call on a stock that fell below the strike or exercising a long put in the same situation.&nbsp; There are practical and potentially lucrative aspects to understanding this fact.&nbsp;<\/p>\n\n\n\n<p>One can endeavor to continue trading SPY, QQQ and a whole raft of other stocks and ETFs after 4:00 if they are near a strike and one holds long expiring puts or calls.&nbsp; Realize that an option\u2019s delta flips enormously as a stock trades around a strike on expiration.&nbsp; Using the $50 call example, if the stock is at $49.99 on the close, the option is out of the money, with 0 delta and largely worthless.&nbsp; If the stock were to flip to $50.01 in the aftermarket, the option is in the money with a 100 delta and worth at least a penny.&nbsp; In something like QQQ, which can move a few cents in either direction after the close, that creates a trading opportunity.&nbsp; Last Friday, QQQ closed at $342.01.&nbsp; If I were long 10 puts, I would be seeking an opportunity to buy stock below $342.&nbsp; If I bought 1000 shares at $341.92, I could then exercise my puts at $342 and lock in 8 extra cents on an option that would have expired worthless.&nbsp; Or I could offer those shares somewhere above $342, hoping to make a profit on the stock and let the options lapse.&nbsp; Ideally, QQQ would fluctuate around the strike, offering several opportunities to trade the up and downs in the shares while still owning protective puts that I could exercise at my choosing.<\/p>\n\n\n\n<p>Sharp-eyed readers will notice that this creates a problem for whomever is short those puts or corresponding calls.&nbsp; They may think that they will be avoiding an exercise, since the ETF closed above the strike.&nbsp; But they could find themselves with a nasty surprise over the weekend if the holder chooses to exercise them.&nbsp; Options traders refer to this as \u201cpin risk\u201d.&nbsp; Someone who is short options near a strike at expiration is potentially exposed to unexpected assignment. That is why it is usually a very good risk management process to cover or roll options that are expiring imminently near a strike.&nbsp; If you can cover an option for a few cents, presumably one that you sold for more money and avoid the risk of an unexpected assignment, it can be worth paying a few cents to avoid a larger unhedged risk later.&nbsp; (<a href=\"\/campus\/traders-insight\/securities\/macro\/its-friday-might-we-see-another-spy-ramp-in-the-final-hour\/\">See more about this topic here<\/a>)<\/p>\n\n\n\n<p>One peculiarity occurs if a stock closes exactly on a strike.&nbsp; OCC will lapse all at-money options if the underlying stock closes exactly on the strike (aka \u201cpin\u201d).&nbsp; In that situation, the holder would want to decide whether to provide affirmative instructions whether to exercise an expiring put or call.&nbsp; If for no other reason than that, anyone trading options need to pay special attention to where their stocks are closing on expiration day.<\/p>\n\n\n\n<p>By the way, I apologize if this all sounds confusing.&nbsp; It\u2019s not an inherently easy topic, which is why it is often overlooked.&nbsp; On the plus side, if you\u2019re new to options trading, consider yourself lucky.&nbsp; That 1 cent exercise threshold that we mentioned in the second paragraph used to be 25 cents.&nbsp; At least you no longer need to make affirmative special exercise decisions if your options closed 10 cents or more in the money.&nbsp;<\/p>\n","protected":false},"excerpt":{"rendered":"<p>Special exercise considerations and pin risk for options holders upon expiration is not an inherently easy topic, which is why it is often overlooked.  Let\u2019s rectify that oversight now.<\/p>\n","protected":false},"author":4,"featured_media":0,"comment_status":"closed","ping_status":"open","sticky":true,"template":"","format":"standard","meta":{"_acf_changed":false,"footnotes":""},"categories":[14700,6,19,8,9,26,3],"tags":[4574,9577],"contributors-categories":[13576],"class_list":{"0":"post-84529","1":"post","2":"type-post","3":"status-publish","4":"format-standard","6":"category-ibkr-market-insights","7":"category-north-america","8":"category-options","9":"category-region","10":"category-securities","11":"category-text-articles","12":"category-traders-insight","13":"tag-options-trading","14":"tag-special-exercise-considerations","15":"contributors-categories-interactive-brokers"},"pp_statuses_selecting_workflow":false,"pp_workflow_action":"current","pp_status_selection":"publish","acf":[],"yoast_head":"<!-- This site is optimized with the Yoast SEO Premium plugin v26.9 (Yoast SEO v27.7) - https:\/\/yoast.com\/product\/yoast-seo-premium-wordpress\/ -->\n<title>Understanding Special Exercises and Pin Risk<\/title>\n<meta name=\"description\" content=\"Special exercise considerations and pin risk for options holders upon expiration is not an inherently easy topic, which is why it is often overlooked....\" \/>\n<meta name=\"robots\" content=\"index, follow, max-snippet:-1, max-image-preview:large, max-video-preview:-1\" \/>\n<link rel=\"canonical\" href=\"https:\/\/www.interactivebrokers.com\/campus\/wp-json\/wp\/v2\/posts\/84529\/\" \/>\n<meta property=\"og:locale\" content=\"en_US\" \/>\n<meta property=\"og:type\" content=\"article\" \/>\n<meta property=\"og:title\" content=\"Understanding Special Exercises and Pin Risk | IBKR Campus US\" \/>\n<meta property=\"og:description\" content=\"Special exercise considerations and pin risk for options holders upon expiration is not an inherently easy topic, which is why it is often overlooked. 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