Early assignment

[raf_bcn]

Hi

I have a question about early assignment before the ex dividend date.

Let's imagine that tomorrow is the ex dividend date for SPY and I am short some itm calls with 30 dte. and 0.17 of extrinsic value.
The same strike put is 0.48 and the dividend amount is 1.23

Oh and the delta of the call is 0.959

I would like to know if the short calls would be early assigned, and why.

thanks.

 

[stepandfetchit]

Early assignment does not require the other party to have a logical reason!

 

[qwerty11]

Early assignment does not require the other party to have a logical reason!

He is not talking about some freak exercise (which indeed sometimes happen) but just regular exercise because of dividend. So (to keep it polite) I think your answer is not very useful.

@ TS: I assume your example is realistic? I.e. not some made up numbers?

 

[Robert Morse]

Hi

I have a question about early assignment before the ex dividend date.

Let's imagine that tomorrow is the ex dividend date for SPY and I am short some itm calls with 30 dte. and 0.17 of extrinsic value.
The same strike put is 0.48 and the dividend amount is 1.23

Oh and the delta of the call is 0.959

I would like to know if the short calls would be early assigned, and why.

thanks.

Since the value of the Put on the same strike + the cost of carry for the stock is much less than a Dividend, that call would benefit the owner to exercise early.

 

[qwerty11]

Hi Robert,

I have a follow up question on your answer.

I do understand your answer, however I'm not sure I understand the dynamics of a strip of dividends (i.e. multiple expected dividends before maturity date).

In my thought it must be the case that a next dividend (before maturity) also has influence of a possible early exercise. But you can probably not just add the expected dividends (before maturity).

Did some searching on this few months ago but could not find it.....

 

[Robert Morse]

Hi Robert,

I have a follow up question on your answer.

I do understand your answer, however I'm not sure I understand the dynamics of a strip of dividends (i.e. multiple expected dividends before maturity date).

In my thought it must be the case that a next dividend (before maturity) also has influence of a possible early exercise. But you can probably not just add the expected dividends (before maturity).

Did some searching on this few months ago but could not find it.....

I'm not sure how any future dividends would apply today. If you keep the options because that is where there is more value, you have the same choice before the next dividend. It is implied that to keep your risk the same, that you will purchase the stock if your exercise.

 

[qwerty11]

In my opinion it cannot be so simple as: future (expected) dividend has no influence on current event.

Just take the example in which 10% of the dividend is paid for 10 consecutive days (assuming time to maturity is order of magnitude higher). In that case it is a good approximation to just add these dividends to know what will happen the before first (ex) day (i.e. it is almost the same as 100% of the dividend on 1 day).

Now make this 5 days between ex dates and it is not so simple anymore. But there still must be a relation?

I would be surprised if there's no simple theory how to model this? Especially since a lot of stocks (ETFs?) pay a monthly dividend (isn't is?).

 

[Robert Morse]

Just take the example in which 10% of the dividend is paid for 10 consecutive days

Ok. Even though that is not a thing, you do the same calculation each day before the next dividend. I have given you my opinion based on my experiance and what I would do. Nothing else I can do here.

Best...Bob

 

[qwerty11]

No, I'm not criticizing or anything, just trying to discuss.... (and I understand what you say is what you do in practice)

The point is, I guess this (my question) has to do remaining (expected) extrinsic value at the next dividend event.

In the (probably simplest and most often happening) case where the extrinsic value is expected to be almost gone at the next event, it is probably enough to only look at the current event.

I think the more difficult one is:

1) assume first ex div event (at t=0), where put + cost of carry is a bit higher (say 110%) than dividend (100%)

2) the next ex div event is earlier than maturity of the call and still some put value is expected (say 40% of put value at t=0). Dividend is the same as at t=0 (100%).

I wonder if this call should be exercised at t=0, however I cannot find the theory behind this.

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BTW I think this is not a theoretical question, as a lot of stocks pay big quarterly dividends. So if you write a call with approximately 6 months maturity just before t=0, there might be some strikes that (more or less) have the parameters like described above....

 

[sle]

1) assume first ex div event (at t=0), where put + cost of carry is a bit higher (say 110%) than dividend (100%)

2) the next ex div event is earlier than maturity of the call and still some put value is expected (say 40% of put value at t=0). Dividend is the same as at t=0 (100%).

I wonder if this call should be exercised at t=0, however I cannot find the theory behind this.

Why would you want to give up optionality from current ex-date to the next one if it costs more than the expected dividend?

PS. In some exotic circumstances there are all sorts of weird early-X decisions due to stuff like mergers, event financing etc but I don't think we are considering anything like that here.