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Sunday, Sep 22, 2002

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Exercising option and selling

I SAW your writeup 'In-the-money options', Sunday, the 15th September. You say that a 3000 expiry option which is deep in the money at 3450 should be held on for further rise or fall which may not be true. Options per se is not an instrument used for purchasing physical shares in future but is an alternative instrument to gain the stock returns for the period held instead of investing the whole price of the stock.

The word options itself means an alternate arrangement. Now, exercising an option means reversing the trade of an option, like if you hold a call when you exercise it you need not have to wait for a buyer since you already bought it from someone and he is obliged to pay you the difference between today's price and ex. price if it is in the money. So the question of liquidity never arises as you wrote later on. That is, you do not have to find a third person to buy your option when you sell since somebody who you bought from is obligated to fulfil his side of the contract when you exercise. Exercise does not mean taking physical possession of the shares rather it is a reversal of trade with the person on the other side of the market. So exercising when you are deep in the money is usually wiser since taking possession of physical stocks is not the reason why majority play in the options market, it is only to achieve stock returns with lower investments hence the name option or a second choice other than playing in the stock market where you have to pay the whole price of the stock or margin and later margin payments if it is called. - Mathew Cherian

I do not agree with the comments of Mr Mathew Cherian. It looks like he has not understood the difference between exercising an option and selling to close in the market. The reply to his points are as under:

When you exercise an option, there is a separate facility available in the NEAT F&O screen which has to be used. When an option is exercised, the difference between the closing price on the date of exercise and the strike price will be paid to the option buyer. The exchange may randomly allocate the reversed position on any of the option writers. When you exercise, you will get only the intrinsic value.

Options are cash settled in the Indian market while they are settled through delivery of the underlying in US markets. When you sell to close, you are selling the option with the same strike price and same maturity period in the market (and not through the exercise facility). Since option prices normally have both intrinsic and time value, you will be able to get a higher realisation when you sell. The question of liquidity comes in when you want to sell to close. Of course it is not applicable when you exercise an option as the liquidity in the cash market will decide the price at which it will be closed out.

If you want to sell to close and the series is not liquid enough, an alternative is to sell in the futures market to lock in at current levels. - A Special Correspondent

If you have any queries relating to the futures/options markets and strategies that can be used in these markets, please mail them to Futures & Options, Kasturi & sons, 859-860, Anna Salai, Chennai 600 002 or email them to with a mention of futures/options in the subject line of the mail.

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