When an investor buys or sells an option contract, the trade settles one business day after the trade date (T - trade date + 1). During an equity option exercise, a stock transaction occurs. If you recall, stock transactions also have a settlement time of one business day (T+1).
Holders must exercise their contracts before they expire. If you recall, standard options expire within nine months of their issuance. Option contracts reference the month they expire.
For example, a Coca-Cola Inc. (ticker: KO) January stock option expires on the third Friday of January, technically at 11:59pm ET (10:59pm CT). The expiration date is typically referred to as “Expiration Friday.”
In addition to the expiration date itself, there are a few other times to know.
The options market closes at 4:00pm ET (3:00pm CT), which is the normal closing time for most stock markets (open from 9:30am - 4:00pm ET Monday through Friday). On Expiration Friday, 4:00pm ET is also the trading cutoff for options.
Although options can’t be traded after 4:00pm ET on the expiration date, option holders have until 5:30pm ET to contact their broker-dealer and request that their contract be exercised.
Every options trade is either an opening transaction or a closing transaction. There are four types of options transactions to be aware of:
When an investor establishes an options position, they engage in an opening transaction. Opening transactions represent the start of a contract between two parties.
Let’s look at an example:
An investor opens an options account at their broker-dealer and immediately establishes 1 long Mar 50 call at $5. What type of options transaction was performed?
Do you know the answer?
Answer = opening purchase
It is an opening purchase for two reasons. First, the investor is establishing a new options position, which makes it an “opening” transaction. Second, the investor is buying (going long) the option, so it is a “purchase” transaction. Putting both together, we have an opening purchase.
Let’s try one more:
An investor opens an options account at their broker-dealer and immediately establishes 1 short Oct 90 put at $8. What type of options transaction was performed?
Do you know the answer?
Answer = opening sale
It is an opening sale for two reasons. First, the investor is establishing a new options position, which makes it an “opening” transaction. Second, the investor is selling (going short) the option, so it is a “sale” transaction. Putting both together, we have an opening sale.
Investors can exit an options position before it is exercised or expires by trading their position to another investor. It helps to think about this from two separate perspectives:
When an investor buys (goes long) an option, they can later sell that same contract in the market. For example, if you owned an option that gave you the right to sell stock at $50 (long 50 put), another investor might be interested in buying it. If you sell the contract for the option’s current premium, that transaction is a closing sale.
The opposite happens with option writers. Assume you initially establish a short position that creates an obligation to buy the stock at $50 (short 50 put). To get out of that obligation, you can return to the market and buy the same option contract.
When you buy the same contract in the market, the investor selling the option takes over your obligation. This transaction is a closing purchase.
Closing purchases and sales can be confusing, so keep the core idea in mind: an investor can close a position by doing the opposite trade.
Let’s go through a few examples to reinforce what we’ve covered:
An investor opens an options account at their broker-dealer and immediately establishes 1 short Dec 25 call. One week before expiration, the investor requests to exit the position. What options order must be submitted to execute the transaction?
Do you know the answer?
Answer = closing purchase
Initially, the investor established the short call through an “opening sale.” However, the question is asking about exiting (closing) the position.
It is a closing purchase for two reasons. First, the investor is exiting a current options position, which makes it a “closing” transaction. Second, the investor must buy (go long) the option to exit the position, so it is a “purchase” transaction. Putting both together, we have a closing purchase.
Last one!
An investor opens an options account at their broker-dealer and immediately establishes 1 long Jun 65 put. One week before expiration, the investor requests to exit the position. What options order must be submitted to execute the transaction?
Do you know the answer?
Answer = closing sale
Initially, the investor established the long put through an “opening purchase.” However, the question is asking about exiting (closing) the position.
It is a closing sale for two reasons. First, the investor is exiting a current options position, which makes it a “closing” transaction. Second, the investor must sell (go short) the option to exit the position, so it is a “sale” transaction. Putting both together, we have a closing sale.
Sign up for free to take 8 quiz questions on this topic