Selling put and call Loss Scenario Examples
"The question you are asking concerns the exercise of a short option position.  The other replies do not appear to address this situation. Suppose that Apple is trading at $96 and you sell a put option with a strike price of $95 for some future delivery date - say August 2016.  The option contract is for 100 shares and you sell the contract for a premium of $3.20. When you sell the option your account will be credited with the premium and debited with the broker commission.  The premium you receive will be $320 = 100 x $3.20.  The commission you pay will depend on you broker. Now suppose that the price of Apple drops to $90 and your option is exercised, either on expiry or prior to expiry.  Then you would be obliged to take delivery of 100 Apple shares at the contracted option strike price of $95 costing you $9,500 plus broker commission.  If you immediately sell the Apple shares you have purchased under your contract obligations, then assuming you sell the shares at the current market price of $90 you would realise a loss of $500 ( = 100x($95-$90) )plus commission.  Since you received a premium of $320 when you sold the put option, your net loss would be $500-$320 = $180 plus any commissions paid to your broker. Now let's look at the case of selling a call option.  Again assume that the price of Apple is $96 and you sell a call option for 100 shares with a strike price of $97 for a premium of $3.60.  The premium you receive would be $360 = 100 x $3.60.  You would also be debited for commission by your broker. Now suppose that the price of Apple shares rises to $101 and your option is exercised.  Then you would be obliged to deliver 100 Apple shares to the party exercising the option at the contracted strike price of $97.  If you did not own the shares to effect delivery, then you would need to purchase those shares in the market at the current market price of $101, and then sell them to the party exercising the option at the strike price of $97.  This would realise an immediate loss of $400 = 100 x ($101-$97) plus any  commission payable.  If you did own the shares, then you would simply deliver them and possibly pay some commission or a delivery fee to your broker.  Since you received $360 when you sold the option, your net loss would be $40 = $400-$360 plus any commission and fees payable to the broker. It is important to understand that in addition to these accounting items, short option positions carry with them a ""margin"" requirement.  You will need to maintain a margin deposit to show ""good faith"" so long as the short option position is open.  If the option you have sold moves against you, then you will be called upon to put up extra margin to cover any potential losses." Here's a simple example for a put, from both sides. Assume XYZ stock trades at $200 right now.  Let's say John writes a $190 out of the money put on XYZ stock and sells this put to Abby for the premium, which is say $5. Assume the strike date, or date of settlement, is 6 months from now.  Thus Abby is long one put option and John is short one put option (the writer of the option is short the option). On settlement date, let's assume two different scenarios: (1) If the price of the stock decreases by $50, then the put that Abby bought is 'in the money'. Abby's profit can be calculated as being strike price 190 - current stock price 150 - premium paid 5 = $35 So not including any transaction fees, that is a $35 dollar return on a $5 investment. (2) If the price of the stock increases by $50, then the put that Abby bought is worthless and her loss was 100%, or her entire $5 premium.  For John, he made $5 in 6 months (in reality you need collateral and good credit to be able to write sizable option positions). See how you can only make the premium amount but your risk is the same as holding the stock when writing a put option.
"I think the question, as worded, has some incorrect assumptions built into it, but let me try to hit the key answers that I think might help: Your broker can't really do anything here.   Your broker doesn't own the calls you sold, and can't elect to exercise someone else's calls. Your broker can take action to liquidate positions when you are in margin calls, but the scenario you describe wouldn't generate them:  If you are long stock, and short calls, the calls are covered, and have no margin requirement.  The stock is the only collateral you need, and you can have the position on in a cash (non-margin) account.   So, assuming you haven't bought other things on margin that have gone south and are generating calls, your broker has no right to do anything to you. If you're wondering about the ""other guy"", meaning the person who is long the calls that you are short, they are the one who can impact you, by exercising their right to buy the stock from you.  In that scenario, you make $21, your maximum possible return (since you bought the stock at $100, collected $1 premium, and sold it for $120.  But they usually won't do that before expiration, and they pretty definitely won't here.  The reason they usually won't is that most options trade above their intrinsic value (the amount that they're in the money).    In your example, the options aren't in the money at all.   The stock is trading at 120, and the option gives the owner the right to buy at 120.* Put another way, exercising the option lets the owner buy the stock for the exact same price anyone with no options can in the market.  So, if the call has any value whatsoever, exercising it is irrational; the owner would be better off selling the call and buying the stock in the market." The 'same day rule' in the UK is a rule for matching purposes only.  It says that sales on any day are matched firstly with purchases made on the same day for the purposes of ascertaining any gain/loss. Hence the phrase 'bed-and-breakfast' ('b&b') when you wish to crystalise a gain (that is within the exempt amount) and re-establish a purchase price at a higher level.  You do the sale on one day, just before the market closes, which gets matched with your original purchase, and then you buy the shares back the next day, just after the market opens.  This is standard tax-planning.  Whenever you have a paper gain, and you wish to lock that gain out of being taxed, you do a bed-and-breakfast transaction, the idea being to use up your annual exemption each and every year.  Of course, if your dealing costs are high, then they may outweigh any tax saved, and so it would be pointless. For the purpose of an example, let's assume that the UK tax year is the same as the calendar year. Scenario 1. Suppose I bought some shares in 2016, for a total price of Stg.50,000. Suppose by the end of 2016, the holding is worth Stg.54,000, resulting in a paper gain of Stg.4,000. Question.  Should I do a b&b transaction to make use of my Stg.11,100 annual exemption ? Answer.  Well, with transaction costs at 1.5% for a round-trip trade, suppose, and stamp duty on the purchase of 0.5%, your total costs for a b&b will be Stg1,080, and your tax saved (upon some future sale date) assuming you are a 20% tax-payer is 20%x(4,000-1,080) = Stg584 (the transaction costs are deductible, we assume).  This does not make sense. Scenario 2. The same as scenario 1., but the shares are worth Stg60,000 by end-2016. Answer.  The total transaction costs are 2%x60,000 = 1,200 and so the taxable gain of 10,000-1,200 = 8,800 would result in a tax bill of 20%x8,800 = 1,760 and so the transaction costs are lower than the tax to be saved (a strict analysis would take into account only the present value of the tax to be saved), it makes sense to crystalise the gain.  We sell some day before the tax year-end, and re-invest the very next day. Scenario 3. The same as scenario 1., but the shares are worth Stg70,000 by end-2016. Answer.  The gain of 20,000 less costs would result in a tax bill for 1,500 (this is: 20%x(20,000 - 2%x70,000 - 11,100) ).  This tax bill will be on top of the dealing costs of 1,400.  But the gain is in excess of the annual exemption.  The strategy is to sell just enough of the holding to crystallise a taxable gain of just 11,100. The fraction, f%, is given by: f%x(70,000-50,000) - 2%xf%x70,000 = 11,100 ... which simplifies to: f% = 11,100/18,600 = 59.68%. The tax saved is 20%x11,100 = 2,220, versus costs of 2%x59.58%x70,000 = 835.52. This strategy of partial b&b is adopted because it never makes sense to pay tax early ! End. "RoR for options you bought is fairly easy: (Current Value-Initial Cost)/Initial Cost gives you the actual return. If you want the rate of return, you need to annualize that number: You divide the return you got above by the number of days the investment was in place, and then multiply that number by the number of days in a year. (365 if you're using calendar days, about 255 if you're using trading days.) RoR for options you sold is much more complex: The problem is that RoR is basically calculating the size of your return relative to the capital it tied up to earn it.   That's simple when you bought something; the capital tied up is the money you put up.   It's more complex on a position like a short option, where the specific transaction in question generates cash when it's put on.    The correct way to deal with this is to A) Bundle your strategy (options, stock and collateral) into one RoR where appropriate, and B) include any needed collateral to support the short option in the calculation. So, if you sell a ""cash-secured"" put, where you have to post the money that you'd need to take delivery of the shares if they were put to you, the initial cost is the total amount you'd need to put the trade on:   in this case, it's the cash amount, less the premium you collected for selling the put.  That's just one example.    But the approach holds more broadly:  if you're using covered calls, your original cost is the cost of the stock less the premium generated by the sale of the call." "If the strike price closest to the underlying has high open interest, the options expiration is a bigger event.   For instance:  stock is at $20 w/ average volume of 100,000 shares per day.    20 strike has 1000 open interest.   In this example the stock will ""most likely"" pin at 20 if we were expiring tomorrow.     As u prob know, long calls at 19.90 close, turn into stock....long puts at 20.10 turn into short stock.   Option pros (high % of volume) dont want to be short or long after expiration.   Long call holders will sell above 20 to hedge, and long put holders will buy below 20.   1000 open interest is equivalent to 100,000 shares.   That's the same amount as the average volume.   Stock can't really move until after expiration.   If I am long 10 $20 calls, and short 1000 shares I am flat going into expiration.....unless the stock gets smoked and now I am synthetically long a put....Short stock + long call= Long Put Then watch out cause it was artificially locked down." My interpretation of that sentence is that you can't do the buying/selling of shares outright (sans margin) because of the massive quantity of shares he's talking about.  So you have to use margin to buy the stocks. However, because in order to make significant money with this sort of strategy you probably need to be working dozens of stocks at the same time, you need to be familiar with portfolio margin.  Since your broker does not calculate margin calls based on individual stocks, but rather on the value of your whole portfolio, you should have experience handling margin not just on individual stock movements but also on overall portfolio movements. For example, if 10% (by value) of the stocks you're targeting tend to have a correlation of -0.8 with the price of oil you should probably target another 10% (by value) in stocks that tend to have a correlation of +0.8 with the price of oil.  And so on and so forth.  That way your portfolio can weather big (or even small) changes in market conditions that would cause a margin call on a novice investor's portfolio. "He didn't sell in the ""normal"" way that most people think of when they hear the term ""sell."" He engaged in a (perfectly legitimate) technique known as short selling, in which he borrows shares from his broker and sells them immediately. He's betting that the price of the stock will drop so he can buy them back at a lower price to return the borrowed shares back to his broker. He gets to pocket the difference. He had about $37,000 of cash in his account. Since he borrowed ~8400 shares and sold them immediately at $2/share, he got $16,800 in cash and owed his broker 8400 shares. So, his net purchasing power at the time of the short sale was $37,000 + $16,800 - 4800 shares * $2/share. As the price of the stock changes, his purchasing power will change according to this equation. He's allowed to continue to borrow these 8400 shares as long as his purchasing power remains above 0. That is, the broker requires him to have enough cash on hand to buy back all of his borrowed shares at any given moment. If his purchasing power ever goes negative, he'll be subject to a margin call: the broker will make him either deposit cash into his account or close his positions (sell long positions or buy back short positions) until it's positive again. The stock jumped up to $13.85 the next morning before the market opened (during ""before-hours"" trading). His purchasing power at that time was $37,000 + $16,800 - 8400 shares * $13.85/share = -$62,540. Since his purchasing power was negative, he was subject to a margin call. By the time he got out, he had to pay $17.50/share to buy back the 8400 shares that he borrowed, making his purchasing power -$101,600. This $101,600 was money that he borrowed from his broker to buy back the shares to fulfill his margin call. His huge loss was from borrowing shares from his broker. Note that his maximum potential loss is unlimited, since there is no limit to how much a stock can grow. Evidently, he failed to grasp the most important concept of short selling, which is that he's borrowing stock from his broker and he's obligated to give that stock back whenever his broker wants, no matter what it costs him to fulfill that obligation." Outside of software that can calculate the returns:  You could calculate your possible returns on that leap spread as you ordinarily would, then place the return results of that and the return results for the covered call position side by side for any given price level of the stock you calculate, and net them out. (Netting out the dollar amounts, not percentage returns.)  Not a great answer, but there ya go. Software like OptionVue is expensive The strategy looks good on paper but in reality, the 150 call will have some time value particularly if it has got some time to mature. Let us say this time value is 0.50 , so the call costs 3.50.   If the stock stays above 150 (actually above 149.50) , by the expiration of the call, you will lose this 0.50 . Then you need to keep buying calls over and over and hope one day a big down move will more than make up for all this lost premium. It is possible, but not entirely predictable. You may get lucky, but it may take many months to produce a significant move to make up for all the lost premium. If a big down move were to happen and the market had any indication of that in advance, that would be priced into the call already, so the 150 call may cost 4$ or 4.50$ if the market had wind of a big move. (a.k.a high implied volatility)