What happens when contracts expire ITM with IB?

[Toothyfish]

Hi,
I was wondering with IB Brokers what happens when a Vertical Credit spread expires ITM?

Let's say I do a Bear Call spread on BHP
Scenario 1:
Short $40 and Long $45. At expiry the underlying is $42.
I would be assigned on the $40 call the next day and as I understand have until 10:10am to deliver?
Would IB brokers just debit the $2000 difference or would I need $42,000 in cash to buy the underlying?

Scenario 2:
If at expiry the underlying is $46. The long $45 should cover the Short $40. Would IB Brokers deduct the $5000 from my account or would I again need the $45000 cash to physically excercise the $45 long call and deliver the underlying stock?

Many thanks

 

[sails]

Hi,
I was wondering with IB Brokers what happens when a Vertical Credit spread expires ITM?

Let's say I do a Bear Call spread on BHP
Scenario 1:
Short $40 and Long $45. At expiry the underlying is $42.
I would be assigned on the $40 call the next day and as I understand have until 10:10am to deliver?
Would IB brokers just debit the $2000 difference or would I need $42,000 in cash to buy the underlying?

I have never been assigned with IB, so my reply is in general terms and not necessarily specific to IB.

At expiry, the long $45 would expire worthless - and as such is no longer any use whatsoever in protecting your short or any short shares that you might end up with the next day leaving you with a lot more risk than the day before.

In the scenario above, I would personally buy to close the short call for around $2,000 to avoid assignment the next day and then let the long expire worthless to save on fees.

If you do nothing and let it be assigned, you wouldn't need the $42,000 as you would be assigned short stock. However, without supplying the underlying shares, you would need to close out that short stock position (unless you have approval from your broker to hold such a short stock position).

Scenario 2:
If at expiry the underlying is $46. The long $45 should cover the Short $40. Would IB Brokers deduct the $5000 from my account or would I again need the $45000 cash to physically excercise the $45 long call and deliver the underlying stock?

Normally what happens with this scenario is that the short is assigned and then you request exercise of your now ITM call at $45. Because the assignment of the short option is selling shares and the exercise of the long option is buying, the two transactions offset each other. This means you don't need any further cash to fund the deal - at least in my experience.

What I have often done is try to trade out of the ITM spread before close on expiry day. I work out how much in fees I will have to pay in the stock transaction vs. how much fees to pay on the option transaction and then work out my best price from there. If I can get out of the spread equal or better than the cost of exercise, so be it. If the MMs don't like my price, then I allow exercise of both.

I'm pretty sure IB has auto exercise at expiry, so it is likely that the $45 long would be automatically exercised. Personally, I would want to make absolutely sure it will be exercised..

Hope this helps

 

[Toothyfish]

Thanks for the reply Sails. I thought that was the case.
I have never been assigned. Although I have only been trading options for 4 years. I always try to close out my positions if they become ITM within the last week of expiry.
I was curious to find out what will happen one day when I am not so dilligent.
That day will come, I am sure!

 

[cooper1308]

Thanks for the reply Sails. I thought that was the case.
I have never been assigned. Although I have only been trading options for 4 years. I always try to close out my positions if they become ITM within the last week of expiry.

Use an early exercise calculator to find out if you are a likely candidate for early exercise...

No point in closing out against your will, if you realize a MM is better off letting the position run. Occasionally a retail punter will exercise early but this will usually be to your benefit.

 

[derenik]

I am interested what the answer to the original question is. IB says that for US option you need those 42-45k:

"If an expired USD option position results in an automatic exercise (the Options Clearing Corporation will automatically exercise any stock option which expired 0.01 or more in-the-money), and the resulting stock position causes a margin deficit in your account, the account would become subject to immediate liquidation. "

What's people's experience with ASX options? Could someone please explain what happens when I'm assigned early on a short position?

E.g. I have 1 short BHP 42 call. If it is exercised early on day T then I will be long 1000 BHP the next day in the morning? And those shares will then be transferred from my account on T+3 and I will receive my cash back?

Thanks!

 

[sails]

...E.g. I have 1 short BHP 42 call. If it is exercised early on day T then I will be long 1000 BHP the next day in the morning? And those shares will then be transferred from my account on T+3 and I will receive my cash back?

Thanks!

No, if you are assigned on a short call, you will find you are short 1,000 BHP shares in the morning.

 

[builder2818]

I am interested what the answer to the original question is. IB says that for US option you need those 42-45k:

"If an expired USD option position results in an automatic exercise (the Options Clearing Corporation will automatically exercise any stock option which expired 0.01 or more in-the-money), and the resulting stock position causes a margin deficit in your account, the account would become subject to immediate liquidation. "

What's people's experience with ASX options? Could someone please explain what happens when I'm assigned early on a short position?

E.g. I have 1 short BHP 42 call. If it is exercised early on day T then I will be long 1000 BHP the next day in the morning? And those shares will then be transferred from my account on T+3 and I will receive my cash back?

Thanks!

Are you short 1 BHP Call at the moment? Not really a good position to be in right now if you are.

 

[cutz]

Are you short 1 BHP Call at the moment? Not really a good position to be in right now if you are.

Actually I think he/she was asking a question on procedure in which case as Sails pointed out he/she would be short stock if assigned on a short call at expiry. So in this case, if the stock closed in between strikes at expiry (in the case of a bear call vertical) all that has to be done is pray for a gap down the next morning and close the position ( If the person does not want to be short stock).

If the stock closed above both stikes at expiry auto exercise on the long should occur relieving the person of short stock, (although please confirm with the broker), in any case a manual request can be submitted just to be sure, once again please check yourself.

To answer the question on ASX options, if assigned early on a short call, if you don't want to hold that assigned short stock position, close out the next day on the open.

 

[derenik]

Yes my question is about procedure I don't have such positions now. Sorry for the mistake yes I meant short stock.
So if I'm assigned on my short call then in the morning I find I am short 1000 BHP. But if I have buying power for only 500 then IB will start auto-liquidation immediately and I won't be able to choose which positions to close. To be safe I need to maintain by buying power to be 1000 shares for each short option position at least.
Is it how it works?

 

[sails]

Yes my question is about procedure I don't have such positions now. Sorry for the mistake yes I meant short stock.
So if I'm assigned on my short call then in the morning I find I am short 1000 BHP. But if I have buying power for only 500 then IB will start auto-liquidation immediately and I won't be able to choose which positions to close. To be safe I need to maintain by buying power to be 1000 shares for each short option position at least.
Is it how it works?

OK now I see why you are concerned at buying.

Because you are now short 1000 shares of BHP, you have to buy the same quantity to close that short position. It works the same as any short selling where you buy to close. Just because the short sell is initiated by an option exercise doesn't change the concept.

The money side of it all works itself out when assigned a short call. Whoever has exercised their long call has technically purchased those shares from you. So their money will fund your purchase and their T3 comes in a day earlier than your T3 due to the fact that their purchase of the shares was done the day before you are informed of assignment.

The only cost that will be your responsibility (apart from fees) is if the market is higher than your strike price when you buy the shares.

The other thing to check is if IB still only provide a 10 minute (until 10:10am) window of opportunity on the day your are assigned until they start auto liquidating and, if you have other positions on, they won't necessarily buy to close your short share position. I have read of some horror stories costing a lot of unnecessary losses due to the seemingly random auto liquidation.

I would suggest sending a ticket to IB to clarify exactly how they work with assignment. I don't like their 10 minute window of opportunity as I usually trade spreads and it's impossible to close out a covering long option by 10:10am! The MMs are often not even out of bed (that's what it feels like)... For this reason, I am very careful with american short positions with IB (prefer index options) and haven't been assigned. So don't take my word for anything, please check it out for yourself.

Also, if you are assigned a short put, the whole thing is reversed where you could be out of pocket for one day due to the day difference in the T3s. Some brokers actually try to charge a fail fee for this one day, but I believe the ASX will waive this fee. I prefer to work with brokers that don't charge this silly fee in the first place. Again, it would pay to check that IB do not charge any extra when buying shares due to short put assignment.

And the other thing is to be extremely careful not to be holding short calls the day before exdividend that are at risk of being assigned as you will also be liable to pay the full dividend...

Typed in haste - hope this helps...

 

[cutz]

But if I have buying power for only 500 then IB will start auto-liquidation immediately and I won't be able to choose which positions to close.

You can set positions to liquidate last.

 

[derenik]

You can set positions to liquidate last.

Is it an option in TWS? I couldn't find it in their API.
Thanks

 

[derenik]

Is it an option in TWS? I couldn't find it in their API.
Thanks

Ok, I found it in Accounds/Positions window, thanks!