What happens if an Option Expires Out of the Money?

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The Concept of Option Expires:

The option expires refer to that time on or after which an option remains worthless or disappears. If an option expires, you have no longer any right in the contract. You will lose the premium which you have paid to buy the option plus any fee or any commission related to the purchase.

An Option Expires Out of the Money: Introduction

As you know that there are 3 scenarios which an option holder can go through on or before the option expires. We will quickly go through those situations one by one:

First one is In-the-money: Usually, it results in a profitable trade if the option is exercised. The second one is Out of the money in which option expires worthless, and, the last one is buying or sell the trade to close the position.

For call option holder, Out of the money is the situation in which strike price is higher than the current market price of the underlying security. While for the put option holder, out of the money is the situation in which strike price is lower than the current market price of the underlying security.

An out of the money has no intrinsic value, but it posses only time value. If an option is out of the money at the time of expiry, it will expire worthlessly.

If you are an intelligent market player, you will not wait till expiry to see what happens. If your trade is working in your favour you will close your position and cash it before expiry. On the other hand, if your trade is unfavourable, it’s better to close and come out of the trade.

The Option Expires Out of the Money: Example

Suppose a stock is currently trading at ₹20. If you have a call option with a strike price of ₹20 or above will be out of the money (OTM) and put option with the strike price of ₹20 or below will come under OTM.

An out of the money trade is not worth exercising. Because exercising your strike means choosing loss.

If the current market price of the stock is less than your strike price, then why will you exercise your call option?

Let’s take another example, suppose a trader buys a call option at ₹10 with the premium of ₹1. This gives him the right to buy 100 shares on or before the date of expiry.

If the current price of the stock is ₹8, then it will be not a wise decision to exercise the call option. Because if you exercise the right, you will have to pay ₹11 while you can buy it from the market at ₹8 only.

Makes sense?

What will happen when an Option Expires Out of the Money?

On which side of the options trade you stand at will decide the effect of options trade expires out of money.

For buyer (call or put) – If you are a buyer of an option say call or put, and it expired out of the money, then you will lose the amount of the premium (That amount which is given as the cost of buying an option).

For seller (call or put) – On the other hand, if you are a seller of an option whether it is a call or put option, and it expired out of the money, then instead of losing anything you will gain.

Call option expires Out of the Money:

If a call option expires out of the money (OTM), and you are a buyer of the call option, then you will lose the premium, commission fees which are incurred on the purchase of a call option. While if you are a seller of the call option and it expires OTM, then you will get the credit you had collected and the stock will remain with you.

Put option expires Out of the Money:

If a put option expires out of the money (OTM), and you are a buyer of the put option, you will simply lose your amount which you have paid (premium) for buying the put option.

Again, if you are a seller of the put option, you will get the full amount as a profit which you received for selling the option.

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Option expires Out of the Money: Summary

• When an option expires, you have no longer any right in the contract.
• When the strike price of an option is higher than the current market price of an underlying security, It is OTM for the call option holder.
• When the strike price of an option is lower than the current market price of an underlying security0
• 16, it comes under OTM for the put option holder.
• The buyer of the option will lose the amount (premium) paid for buying the security if expired OTM.
• The seller of the option will get the benefit of the premium amount received at the time of selling the option if expired OTM.

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