I have the following questions for Covered Calls and its functioning
Scenario - Lets say I buy a SCRIP@1000 (300 qty) and write its call option for 1200CE strike price for MAR2020 Expiry, then my question is
If the SCRIP reaches 1200 before expiry - can the call buyer exercise to buy my stocks before expiry - to convert his position or will he have to wait till expiry.
And on Zerodha how will I be informed that the buyer wants to convert his position - or is this automatically done.
Or does this operation happen only at expiry day.I mean conversion of positions.
Also in this scenario, before expiry, Can i sell the Underlying equity 300qty (in profit) and also square off the option(which may be in loss - as I had sold it)…and I guess I will first have to square off the option position and then book the equity profit…in sequence.
what are the things to be careful when dealing with covered calls.
also at expiry - if the strike price is reached …the ITM call option will have a price higher than what i sold it for…???Isn’t that going to result in loss for me or Am i missing out on something here ?
The obligation to give or take deliver of shares arises only if your position expires ITM. There will be no physical delivery obligation before expiry.
You can do either of these, No issues.
ITM options get exercised but expire at 0 value. The strike price of the contract will be the buy/sell (average) price of the stocks upon physical settlement. You can read this post to learn more on the physical settlement.
So this means - at Expiry for ITM contracts -
1> I will get to keep the premiums of the call write.
2>Plus I also get the profit of the underlying stock price rise.
Yes, you’ll get to keep the premium received for writing option.
Suppose you bought underlying shares at 100 and Shorted Call Option at 110, if underlying expires at 115, your 110 CE will expire ITM.
Now, you’ll have deliver these shares at 110, which you had bought at 100, so the difference between your buy price and delivery price (ie. Rs. 10) will be your profit.
I think that is well answered and brilliant. Thanks for answering all questions. I will just put down the steps here to summarize the entire process. You can just confirm if it is correct or if I am missing out anything. Pl find below the steps
SCRIPNAME Purchased @1000Rs. - 200 qty
SCRIPNAME 1200CE SOLD for MAR21 expiry @ 50rs*200 = 10000
On expiry - SCRIPNAME reaches 1400 - ITM 1200CE MAR21 option has zero value on expiry.
During settlement on expiry - the platform automatically converts the underlying long position to be sold at 1200 - thus giving a net profit of 200*250 = 50,000
Pt.4 above happens mandatorily, irrespective of the underlying option buyer exercising the right to buy or not - as per article link shared here - “Short call assigned shall result in a sell (security deliverable) position”
In case the SCRIPNAME had not hit the strike price of 1200 on expiry then the Rs.10000 call write premium will be part of the net credit to the option writer - and settled during expiry.
4 - > For this, you will have to unpledge the shares if they are pledged.
6 -> Premium you get when you sell the option. You already have it once you sell the option. You get the premium irrespective of whether it expires ITM or OTM.
HI @Vij can you please elaborate on pt.4
What is pledging and unpledging - I am new to this.
All I know - or assuming is that - I have already purchased the underlying quantity of shares - which i will have to give away - but do I need to do something for this or is it automatic.
If you pledge for collateral margin, then it has to be unpledged. If you dont pledge and do all with cash (?), then you dont need to unpledge (as it never existed in the first place) and will be sold by the broker @ strike price and funds credited…
Hi , in case I unpledge shares before expiry, will i get a margin call (assume sold call option is ITM)? even if I own the underlying shares and i want to give delivery. Please clarify, confused
Holding underlying shares doesn’t provide any margin benefit for options position. You will have to maintain the required margins.
Also, if you have open positions, you will have to maintain sufficient margins in your account before unpledging the shares, else the request will be rejected. As explained here:
You will be able to unpledge your pledged holdings only to the extent of the unused collateral. The unpledge request will be rejected if the collateral is used for the positions taken. In such cases, you will either have to bring in cash or square off your position to be able to unpledge your pledged holdings.
I know what you are thinking and regret to inform you that we cannot do it. Would have been great if the broker could somehow lock the sale of said shares for covered call and spare us the trouble wrt margin juggling.