How assignment notice affects options prices

An assignment notice is a formal notification to the seller (writer) of an options contract that the buyer (holder) has chosen to exercise their right to buy or sell the underlying

An assignment notice signals that an options contract, either a call or a put, has been exercised by its holder. For call options, this means the buyer is demanding delivery of the underlying shares at the strike price, and the seller of the call option is obligated to sell those shares. Conversely, for put options, the buyer is demanding to sell the underlying shares at the strike price, and the seller of the put option is obligated to buy those shares. This process directly impacts the assigned option seller, who must fulfill their contractual obligation. The assignment notice is typically delivered by the Options Clearing Corporation (OCC) to the broker, who then passes it on to the investor. The selection of which specific short options positions are assigned when multiple contracts exist is often done through a random lottery system by the OCC, though some brokers may use a 'first-in, first-out' or other systematic approach. Upon receiving an assignment notice, the assigned option seller must be prepared to either deliver (for calls) or purchase (for puts) the underlying asset, often requiring them to buy or sell the shares on the open market if they don't already hold the opposite position. This can lead to unexpected transactions and potential costs if the market price has moved unfavorably since the option was written. Understanding the implications of an assignment notice is crucial for anyone writing options, as it represents a significant part of the risk profile of selling contracts.

Why it matters

  • - An assignment notice formalizes the exercise of an option, translating a theoretical obligation into a real-world transaction. This directly impacts the option seller, requiring them to deliver or take delivery of the underlying asset at the strike price.
  • Receiving an assignment notice often necessitates immediate action from the option seller, potentially involving buying or selling shares in the market to fulfill the contract. This can lead to transactional costs and potential losses if the market has moved against the seller's position.
  • Understanding the timing and implications of an assignment notice is crucial for risk management, especially for those who write out-of-the-money options or use complex options strategies. It helps traders prepare for the possibility of early assignment and manage their capital requirements.

Common mistakes

  • - One common mistake is neglecting to monitor short option positions, leading to surprise assignment notices. To avoid this, regularly review the expiration dates and in-the-money status of all written options.
  • Another error is not having sufficient capital or the underlying shares readily available to fulfill an assignment. Always ensure that you have either the funds or the shares to cover your obligations before writing options.
  • Some traders fail to understand that assignment can happen before expiration, especially for in-the-money options with little time value. To prevent this, be aware of the early assignment risk of American-style options.
  • A frequent misstep is ignoring dividend risk for short call options, where the incentive to exercise can increase significantly just before a dividend payment. Be mindful of dividend ex-dates when holding short call positions.

FAQs

Who typically receives an assignment notice?

The seller (writer) of an options contract receives an assignment notice. This notification comes from their brokerage firm, which in turn received it from the Options Clearing Corporation (OCC).

What actions are required after receiving an assignment notice?

Upon receiving an assignment notice, the assigned option seller must fulfill their obligation. For a short call, they must deliver the underlying shares; for a short put, they must buy the underlying shares, often by executing a corresponding market order if they do not already hold the position.

Can an assignment notice be received before the option's expiration date?

Yes, for American-style options, an assignment notice can be received at any time before the expiration date. This often occurs when a buyer exercises their in-the-money option early, particularly if a dividend payment is imminent.