Series 6: 4.4.5. Settlement: Expiration, Liquidation, Exercise

4.4.5.  Settlement: Expiration, Liquidation, Exercise

There are three ways in which an option contract can settle: it can be exercised, traded, or left to expire. If an option is in the money (meaning the market price is higher than the strike price for call options and lower than the strike price for put options), an option buyer will at some point want to exercise the option or trade it. An option seller will prefer to see the option out of the money where it will be left to expire.

Exercise. An American-style option, which is most options that trade on the U.S. market, can be exercised at any time. When the buyer exercises the option, the seller is said to be assigned the option. Assignment means the seller has been selected to purchase the underlying stock at a loss and