What is an Option Assignment & How Does it Work?

Options assignment refers to the process in which the obligations of an options contract are fulfilled. This happens when the holder of an options contract decides to exercise their rights.

When an option holder decides to exercise, the Options Clearing Corporation (OCC) will randomly assign the exercise notice to one of the option writers.

A call option gives the holder the right to buy an underlying asset at a specified price (the strike price) within a certain period. If the holder decides to exercise a call option, the seller (writer) of the option is obligated to sell the underlying asset at the strike price. In this case, the option seller is said to be "assigned."

A put option gives the holder the right to sell an underlying asset at a specified price within a certain period. If the holder decides to exercise a put option, the seller of the option is obligated to buy the underlying asset at the strike price. Again, the option seller is "assigned" in this scenario.

Importantly, being assigned on an option can lead to significant financial obligations, particularly if the option writer does not already own the underlying asset for a call option (known as a naked call) or does not have the cash to buy the underlying asset for a put option. Therefore, option writers should be prepared for the possibility of assignment.

Options assignment works in tandem with the exercise of an options contract. It's the process of fulfilling the obligations of the options contract when the option holder decides to exercise their contractual right as outlined above.

When an option owner exercises their right to convert the option to stock, the option writer is assigned and the option is converted to 100 shares of stock per option contract. Simply put, assignment refers to an options contract being converted to 100 shares of stock, regardless of whether it is a naked option or part of a multi-leg options strategy.

Long call options convert to 100 shares of long stock, and short call options convert to 100 shares of short stock at the strike price.

Long put option contracts convert to 100 shares of short stock, and short put option contracts convert to 100 shares of long stock at the strike price.

In general, the options assignment process includes four steps, as outlined below: 

• Option Exercise: The holder of the option (the investor who purchased the option) decides to exercise the option. This decision is typically made when it is beneficial for the option holder to do so. For example, if the market price of the underlying asset is favorable compared to the strike price in the option contract.

• Notification: When the option is exercised, the Options Clearing Corporation (OCC) is notified. The OCC then selects a member brokerage firm, which in turn chooses one of its clients who has written (sold) an options contract of the same series (same underlying asset, strike price, and expiration date) to be assigned.

• Assignment: The selected option writer (the investor who sold the option) is then assigned by the brokerage. The assignment means that the option writer now has the obligation to fulfill the terms of the options contract.

• Fulfillment: If it was a call option that was exercised, the assigned writer must sell the underlying asset to the option holder at the agreed-upon strike price. If it was a put option that was exercised, the assigned writer must buy the underlying asset from the option holder at the strike price.

It's important to note that assignment cannot happen when the market is open - these transactions take place when the options market is closed.

Writing an option refers to the act of selling an options contract. 

This term is used because the seller is essentially creating (or "writing") a new contract that gives the buyer the right, but not the obligation, to buy or sell a security at a predetermined price within a specific period. In this case, "writing a put or call" and "shorting a put or call" refers to the same thing.

There are two types of options that investors/traders can write: a call option or a put option. Further details for each are outlined below:

• Writing a Call Option: This process involves selling someone the right to buy a security from you at a specified price (the strike price) before the option expires. If the buyer decides to exercise their right, you, as the writer, must sell them the security at that strike price, regardless of the market price. If you don't own the underlying security, this is known as writing a naked call, which can involve substantial risk as there is no cap to how high a stock price can go. A short call holder assumes the risk of 100 shares of short stock above the strike price.

• Writing a Put Option: This process involves selling someone the right to sell a security to you at a specified price before the option expires. If the buyer decides to exercise their right, you, as the writer, must buy the security from them at that strike price, regardless of the market price. A short put holder assumes the risk of 100 shares of long stock below the strike price.

When an investor/trader writes an option, he/she receives the option’s extrinsic value premium associated with assuming the intrinsic value risk of the options contract. This extrinsic value premium is theirs to keep if held through expiration, regardless of whether the option is exercised or expires worthless.

As such, writing options (i.e. selling options) is typically reserved for experienced investors/traders who are comfortable with the risks involved, as short options assume the risk of 100 shares of long or short stock depending on the options type.

It’s impossible to know for certain if a given option will be assigned, but the more extrinsic value there is associated with an option, the less likely it is to be assigned (excluding dividend risk associated with ITM short call options).

There are several situations in which an options assignment becomes more likely, as detailed below:

• In-the-money (ITM) Options: An option is more likely to be exercised, and therefore assigned, if it's in the money. That means the market price of the underlying asset is above the strike price for a call option, or below the strike price for a put option. This is because exercising the option in such a scenario could start to make sense for the option owner as the option would have intrinsic value. OTM options are not likely to be assigned as the trader or investor could just buy or sell shares of stock at a better price in the outright market.

• Near Expiration: Options are also more likely to be exercised as they approach their expiration date, particularly if they are in the money. This is because the extrinsic value of the option (a component of its price) diminishes as the option nears expiration, leaving only the intrinsic value (the difference between the market price of the underlying asset and the strike price).

• Dividend Payments: For ITM call options, if the underlying security is due to pay a dividend, and the amount of the dividend is larger than the extrinsic value remaining in the option's price, it might make sense for the holder to exercise the option early to capture the dividend. This could lead to early assignment for the writer of the option.

Remember, even if the above scenarios exist, it does not guarantee assignment, as the option holder might not choose to exercise the option. The decision to exercise is entirely up to the option holder. 

Therefore, when writing (i.e. selling) options, investors and traders should be prepared for the possibility of assignment at any time until the option expires.

In general, the options assignment process includes four steps, as outlined below: 

• Option Exercise: The holder of the option (the investor who purchased the option) decides to exercise the option. This decision is typically made when it is beneficial for the option holder to do so. For example, if the market price of the underlying asset is favorable compared to the strike price in the option contract.

• Notification: When the option is exercised, the Options Clearing Corporation (OCC) is notified. The OCC then selects a member brokerage firm, which in turn chooses one of its clients who has written (sold) an options contract of the same series (same underlying asset, strike price, and expiration date) to be assigned.

• Assignment: The selected option writer (the investor who sold the option) is then assigned by the brokerage. The assignment means that the option writer now has the obligation to fulfill the terms of the options contract.

• Fulfillment: If it was a call option that was exercised, the assigned writer must sell the underlying asset to the option holder at the agreed-upon strike price. If it was a put option that was exercised, the assigned writer must buy the underlying asset from the option holder at the strike price.

Remember, as the writer of the option, you receive and keep the premium regardless of whether the option is exercised or not. But this premium may not be sufficient to offset any loss from the assignment. That's why writing options involves risk and requires careful consideration.

This term is used because the seller is essentially creating (or "writing") a new contract that gives the buyer the right, but not the obligation, to buy or sell a security at a predetermined price within a specific period.

There are two types of options that investors/traders can write: a call option or a put option. Further details for each are outlined below:

• Writing a Call Option: This process involves selling someone the right to buy a security from you at a specified price (the strike price) before the option expires. If the buyer decides to exercise their right, you, as the writer, must sell them the security at that strike price, regardless of the market price. If you don't own the underlying security, this is known as writing a naked call, which can involve substantial risk.

• Writing a Put Option: This process involves selling someone the right to sell a security to you at a specified price before the option expires. If the buyer decides to exercise their right, you, as the writer, must buy the security from them at that strike price, regardless of the market price.

Remember, as the writer of the option, you receive and keep the premium regardless of whether the option is exercised or not. But this premium may not be sufficient to offset any loss from the assignment. That's why writing options involves risk and requires careful consideration.

Options assignment refers to the process in which the obligations of an options contract are fulfilled. This happens when the holder of an options contract decides to exercise their rights.

In general, the options assignment process includes four steps, as outlined below: 

• Option Exercise: The holder of the option (the investor who purchased the option) decides to exercise the option. This decision is typically made when it is beneficial for the option holder to do so. For example, if the market price of the underlying asset is favorable compared to the strike price in the option contract.

• Notification: When the option is exercised, the Options Clearing Corporation (OCC) is notified. The OCC then selects a member brokerage firm, which in turn chooses one of its clients who has written (sold) an options contract of the same series (same underlying asset, strike price, and expiration date) to be assigned.

• Assignment: The selected option writer (the investor who sold the option) is then assigned by the brokerage. The assignment means that the option writer now has the obligation to fulfill the terms of the options contract.

• Fulfillment: If it was a call option that was exercised, the assigned writer must sell the underlying asset to the option holder at the agreed-upon strike price. If it was a put option that was exercised, the assigned writer must buy the underlying asset from the option holder at the strike price.

Remember, as the writer of the option, you receive and keep the premium regardless of whether the option is exercised or not. But this premium may not be sufficient to offset any loss from the assignment. That's why writing options involves risk and requires careful consideration.

As such, writing options (i.e. selling options) is typically reserved for experienced investors/traders who are comfortable with the risks involved.