Call credit spread assignment procedure

[newwurldmn]

Every broker handles this differently.

My broker will exercise the spread and then you will have margin issues which have consequences. At least that's what they told me 10 years ago when i called them about this very issue. Since then they have gone through a major merger and my situation has changed such that, that will never be an issue again.

I've heard other brokers will buy you in a few minutes before the expiration if you can't fund the expiry. (Obv this will be at unfavorable prices).

Either you just speak to your broker and that is that. Or you share your broker's name and maybe someone has experience and can help you.

Going to optiontradingpedia and speculating on different scenarios is not the right path to answering your question

ABC short 100 contracts @ 4.60 strike
ABC long 100 contracts @ 4.70 strike

So my maximum risk is 0.10 * 100 * 100 = 1000

How would the assignment procedure be carried out by the broker if:

Scenario 1
Price hits 4.80
Short call ITM
Long call ITM

The broker agent I talked to seemed to think that in scenario 1 the brokerage would exercise the long call ITM, and then sell those shares at the short call strike to cover that contract...and I pay the difference (1000 loss as mentioned)


Scenario 2
Price hits 4.70
Short call ITM
Long call OTM

In Scenario 2 the broker agent said they purchase at the market price and then sell those shares at the short strike to cover that contract, and then again I cover the difference (1000 loss as mentioned)

The reason I'm asking is without the broker facilitating the process I could not deliver the shares as I do not have $50k in my account.

 

[mervyn]

Yes but if you do a spread, they look at the margin on the entire spread as a whole and the margin requirement gets significantly reduced.

that’s simple not true.

spread in a system is not a combo, is separate trades. there is always early assignment risk, or you can choose to exercise any leg at anytime.

also different platform can let you display trades differently using common strategies. if you have multiple spreads on a stock then you aren’t flexible to group the trades but you can always see each leg.

the core of the issue is that trade settlement is t+2, if you get assignment value greater than your account balance, the broker will close your option position both sides, that’s why it looks as spread is offsetting each other. but if you are in a situation where you want to take the stocks, you may not be able to do that.

as for margin, you need initial margin and maintenance margin overnight for each leg, not as a spread.

 

[TheDawn]

that’s simple not true.

spread in a system is not a combo, is separate trades. there is always early assignment risk, or you can choose to exercise any leg at anytime.

also different platform can let you display trades differently using common strategies. if you have multiple spreads on a stock then you aren’t flexible to group the trades but you can always see each leg.

the core of the issue is that trade settlement is t+2, if you get assignment value greater than your account balance, the broker will close your option position both sides, that’s why it looks as spread is offsetting each other. but if you are in a situation where you want to take the stocks, you may not be able to do that.

Like I said in my previous post, this is what IB does:

It will depend on the broker. With brokers like IB, if they see that you don't have enough funds to cover the auto-exercise will force liquidate your option position to close them before they get exercised unless you put in more money.

as for margin, you need initial margin and maintenance margin overnight for each leg, not as a spread.

IB does require less margin if you trade an option spread than if you trade a naked option. This is what I was trying to say. And some brokers will still let you take assignment and auto-exercise if you have enough money to cover the difference even if you don't have enough money to cover the assignment/auto-exercise of one leg from the spread. The OP does have enough money to cover the loss; he just doesn't have enough money to cover the auto-exercise of the long leg of the option spread. So if the broker processes the assignment from the short call first, the proceeds + $1K from OP's account is enough to buy the shares from the long calls due to auto-exercise to cover the short. At the end, the risk is DEFINED. No matter what happens, the maximum loss is still $1000. If it's a naked option, then that's a different story. That's why I believe IB's force liquidation is more than draconian unnecessarily.

 

[wxytrader]

The OP does have enough money to cover the loss; he just doesn't have enough money to cover the auto-exercise of the long leg of the option spread. So if the broker processes the assignment from the short call first, the proceeds + $1K from OP's account is enough to buy the shares from the long calls due to auto-exercise to cover the short. At the end, the risk is DEFINED. No matter what happens, the maximum loss is still $1000.

Exactly! It doesn't matter how high the stock price goes, the risk is defined at 1k. There should be no requirement to cover the cost of the auto-exercise because it is in-consequential.

ABC short 100 contracts @ 4.60 strike
ABC long 100 contracts @ 4.70 strike

The broker simply exercises the long call to buy the shares at 4.70, then sells them at 4.60 and recovers the defined 1k loss from my margin. Closing the position brings no risk or cost to the broker. They would probably force close the position if they saw it getting close to assignment anyway.

A good way to test the margin on this would be on TOS paper trading. Really, the only margin requirement other than a general specified balance in your margin account for writing contracts should be the risk of the spread itself...not the cost of covering the short call leg of the spread.

 

[TheDawn]

Exactly! It doesn't matter how high the stock price goes, the risk is defined at 1k. There should be no requirement to cover the cost of the auto-exercise because it is in-consequential.

ABC short 100 contracts @ 4.60 strike
ABC long 100 contracts @ 4.70 strike

The broker simply exercises the long call to buy the shares at 4.70, then sells them at 4.60 and recovers the defined 1k loss from my margin. Closing the position brings no risk or cost to the broker. They would probably force close the position if they saw it getting close to assignment anyway.

A good way to test the margin on this would be on TOS paper trading. Really, the only margin requirement other than a general specified balance in your margin account for writing contracts should be the risk of the spread itself...not the cost of covering the short call leg of the spread.

If you don't have the money to buy the shares, they will short the shares first to come up with the money and then together with $1K from your account to buy the shares, not the other way around. That is IF the broker allows shorting of shares. Not all brokers do. That's another problem.

 

[wxytrader]

If you don't have the money to buy the shares, they will short the shares first to come up with the money and then together with $1K from your account to buy the shares, not the other way around. That is IF the broker allows shorting of shares. Not all brokers do. That's another problem.

That's what I thought too, since you don't have the shares your account will go short triggering a margin call, but simultaneously the broker will exercise the long option and close the short position. My broker made it sound like they do It all in one maneuver starting with exercising the long option.

 

[TheDawn]

That's what I thought too, since you don't have the shares your account will go short triggering a margin call, but simultaneously the broker will exercise the long option and close the short position. My broker made it sound like they do It all in one maneuver starting with exercising the long option.

But if you don't have the money to buy the shares how is the broker going to buy the shares? Where are they going to get the money? That's why I think they are going to go short first.

 

[wxytrader]

But if you don't have the money to buy the shares how is the broker going to buy the shares? Where are they going to get the money? That's why I think they are going to go short first.

Yes I totally agree. My broker doesn't allow naked calls, but does allow shorting stocks. That never made sense to me because what's the difference?

https://seekingalpha.com/article/44...ng-naked-calls-alternative-to-shorting-stocks

I'm still not convinced an assignment wouldn't cause a total cluster duck so going to give it the weekend and call back again for more clarity.

 

[mervyn]

Level 4 can allow you to write naked calls/puts, index options etc. I have that with TradeStation but not with Fidelity.

I had numbers of instances when I don’t have enough cash to take the full assignment (or barely) on Friday’s close. Fidelity immediately closed out my positions Monday morning at open, luckily the stock popped and made a pocket change. I could have asked to kept half of the position but it wasn’t up to me.

IB wasn’t that kind, early assignments were frequent events, particularly you are underwater.

There is no people to work with your account, it is all automatic these days. Good luck with your trade.

 

[wxytrader]

Level 4 can allow you to write naked calls/puts, index options etc. I have that with TradeStation but not with Fidelity.

I had numbers of instances when I don’t have enough cash to take the full assignment (or barely) on Friday’s close. Fidelity immediately closed out my positions Monday morning at open, luckily the stock popped and made a pocket change. I could have asked to kept half of the position but it wasn’t up to me.

IB wasn’t that kind, early assignments were frequent events, particularly you are underwater.

There is no people to work with your account, it is all automatic these days. Good luck with your trade.

This video answered all my questions on what happens when you don't have the funds, or the shares to cover an assigment. At the end he mentions he uses TD Ameritrade which I think uses the ThinkorSwim platform, and he gives basically 2 scenarios with brokers.

• They will deposit the shares from a short put, or short you the shares from a short call, and you get a margin call where you can either close the position yourself or satisfy the margin.
• They force close your position.

Anyway with a spread there is virtually no risk since you have protection of the long option.

So I think I am going to do all my options trading with think or swim TD now, since it is all automated, and my broker doesn't seem to understand their own procedures...I have had conflicting information thus far. I was able to do a test trade today that is an ITM credit spread, expiring today. The net cost for me to deliver the shares on the (naked) short call is over $4 million dollars, and I only have 100k in my paper trading account, but it put the trade through np. We'll see what happens...my guess is the platform will just close the position and post my loss.