Options Expiration week
This Friday is the third Friday of the month, which means it is options expiration. Each option contract has a limited life and a February option expires on the 3rd Friday in February. On this date, the obligation of the seller will expire and the buy has a 3 options again.
Let’s go over these options.
- The option can expire worthless on Friday. An example would be a purchase by the buyer for a Feb 30 call and the stock price is now 25. The option holder would not pay 30 for the stock when he can buy it for 25 in the open market. The seller of the option will let this option expire worthless and his profit is the amount he sold the option at the time of the opening transaction. The expiration closes the transaction and the trade is over.
- The option can have value as the stock price is above the strike price. In this example a buyer of a 30 call option with the stock trading at 35, could do 2 trades at expiration. He could exercise his right to buy the stock at 30 and pay $30.00 for the stock and he would own the stock going forward. He also could just sell the option which would be worth $5.00 and pocket his gain or take the loss on the option depending on his original purchase price. Either of these choices also closes the position at expiration.
- The option may have value and the seller does not want to give up his stock. Therefore, the seller may go back in the option market and buy back or what is known as close the obligation by buying back the contract he sold. This also closes the position.
Most often, options are used in combination with stock or other options to create risk characteristic for just about every speculator and investor. Covered calls, spreads, hedges can be combined. The close of the option position does not necessarily tell the whole story.
Volatility is often exhibited during the week before and the day of expiration. Traders and money managers position their portfolios for the future based on their opinions of the individual stock and the market as a whole. To avoid volatility that used to exist on the day of expiration, more and more portfolio managers are spreading out their moves over the weeks before expiration day.
It is difficult to predict exactly what will happen during expiration week. I have found that when stocks are in an uptrend, more underlying stock positions are held. Options for the current month are closed and reopened in later month contracts. When the general market is declining, the stock holder received some premium for the option. I f the option holder does not want to hold the stock in the future, they will buy back at a gain the option sold, and sell the stock causing downward pressure in the market.
For the average investor/trader not involved with option positions, my recommendation is stay with your plan. Volatility and market trends can change at any time. The market trend is the greatest influence on positions, not the option contracts.
The dog wags the tail, not the tail wagging the dog!