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Main Dictionary E

Exercise

The term exercise refers to realization of the right to buy or sell assets in the option contract. Option holders are entitled to put on a sale or purchase certain security in any period of time whether it is some particular date in future or not.

Exercise explained

In case of the appearance of a will of an option trader to sell or purchase the underlying asset instead waiting for its expiry date to come or close out the position, the holder of the option may exercise it. That means the trader has the opportunity to exercise the right or privilege that is provided by the contract.

The certain price chosen for purchase or sell of an option is called the exercise price. By setting the exercise price the trader is enabled to exercise his/her right to buy or sell their own assets.

Process when brokers exercise an option implies the provision of the information to the broker about holder’s desire to purchase or sell certain option, assets or any other financial instrument stated in his/her contract. To exercise an option, you simply inform your broker that you wish to exercise the option set out in your contract. 

After information sharing, the broker is obligated to dispatch to the trader an exercise notice. The exercise notice contains details essential for the seller of an option or a contract to exercise it. Afterwards, this message is dispatched through the Options Clearing Corporation (OCC). The retailer is accountable to exercise the contract terms when the trader that holds the contract exercises it.

Most option contracts are not getting exercised. In this case they stay unexercised and are shut when the expiry date comes. If this happens, the trader who held the option loses all the right concerning the contract. Holder also loses premium, commissions and fees paid when purchasing the asset.

Points for consideration when purchasing an option

It is crucial to know what type of the option trader has in order to comply with the rules of each one. In certain circumstances, assets of a trader can be vested. In this case, there is a need for a certain amount of time to pass before the possibility of an option exercise appears. 

When conducting an exercise, a trader also has to keep in mind that he/she must pay commissions and fees. Their amount should not surpass the possible profit, otherwise a trader will only get losses without standing a chance of receiving profit. It is also essential to remember about taxation of certain kinds of assets that is usually not included in price of the contract.

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