How Stock Options Expire

Posted by Nick Niesen on November 8th, 2010

Expiration dates for options of a single underlying stock are offered on a predictable cycle. Every stock with listed options can be identified by the cycle to which it belongs, and these remain unchanged. There are three annual cycles:

1.January, April, July, and October (JAJO).
2.February, May, August, and November (FMAN).
3.March, June, September, and December (MJSD).

In addition to these fixed expiration cycle dates, active options are available for expiration in the upcoming month. For example, let's suppose that a particular stock has options expiring in the cycle month of April. In February, you may be able to trade in short-term options expiring in March (even though that is not a part of the normal cyclical expiration).

Tip: Some options traders use short-term options as speculative devices. Because they come and go more rapidly than the cyclical options, they often are overlooked as opportunities. For example, they can be used to temporarily protect longer-term short option positions.

An option's expiration takes place on the third Saturday of the expiration month. An order to close an open position has to be placed and executed no later than the last trading day before expiration day, and before the indicated expiration time for the option. As a general rule, this means that the trade has to be executed before the close of business on the Friday immediately before the Saturday of expiration; however, a specific cut off time could be missed on an exceptionally busy Friday, so you need to ensure that your broker is going to be able to execute your trade in time to comply with the rules.

The last-minute order that you place can be one of three types of transactions. It can be an order to buy in order to close a currently open (previously sold) short position; an order to sell an existing long position to close; or an exercise order to buy or to sell 100 shares of stock for each option involved. If a last-minute exercise is made against your short position, the order is entered without your advance knowledge; you are advised of exercise and instructed to deliver funds (for an exercised call) or to accept and pay for shares (for an exercised put).

Example: A Matter of Timing: You bought a call scheduled to expire in the month of July. Its expiration occurs on the third Saturday in that month. You need to place a sell order or an order to exercise the call (to buy 100 shares of stock at the striking price) before expiration time on the preceding Friday, which is the last trading day prior to expiration. If you fail to place either a sell or exercise order by that time, the option will expire worthless and you will receive no benefit.

With the pending deadline in mind and the unknown potential for a busy Friday in the market?which can occur whether you place orders over the telephone or on the Internet?you need to place that order with adequate time for execution. You can place the order far in advance with instructions to execute it by the end of business on Friday. If the brokerage firm accepts that order, then you will be protected if they fail to execute?as long as you placed the order well in advance of the deadline.

Opening and Closing Option Trades

Every option trade you make must specify the four terms: striking price, expiration month, call or put, and the underlying stock. If any of these terms changes, that means that an entirely different option is involved.

Whenever you have opened an option by buying or selling, the status is called an open position. When you buy, it is described as an opening purchase transaction. And if you start out by selling an option, that is called an opening sale transaction.

Example: Open and Close: You bought a call two months ago. When you entered your order, it was an opening purchase transaction. That status remains the same as long as you take no further action. The position will be closed when you enter a closing sale transaction to sell the call; you may also exercise the option; if you do not take either of these actions, the option will expire.

Example: The Risk of Exercise: You sold a call last month, placing yourself in a short position. As long as you take no further action, the position remains open. You can choose to wait out the expiration period; or you may execute a closing purchase transaction, and cancel the option before expiration. As long as the short position remains open, it is also possible that the call will be exercised and you will have 100 shares called away at the striking price. Exercise will only occur if the stock's market price moves higher than the call's striking price.