Exercise (options) - Exercise Considerations

Exercise Considerations

The following guidelines determine whether and when to exercise an option:

1. An option should only be exercised if it is in the money by at least as much as the fees associated with the underlying transaction (e.g. the fee for subsequently selling an underlying which has been physically delivered). The exercise usually costs money as well.
2. In most cases, options should not be exercised before expiration because doing so gives away inherent value. Selling them would almost invariably yield more.
3. For an American-style call option, early exercise is a possibility whenever the benefits of being long the underlier outweigh the cost of surrendering the option early. For instance, on the day before an ex-dividend date, it may make sense to exercise an equity call option early in order to collect the dividend. In general, equity call options should only be exercised early on the day before an ex-dividend date, and then only for deep in-the-money options.
4. For an American-style put option, early exercise is a possibility for deep in-the-money options. In this case, it may make sense to exercise the option early in order to obtain the profit earlier so that it can start to earn interest immediately. This is somewhat more likely to be worthwhile if there is no ex-dividend date (which would probably cause the price of the underlying to fall further) between now and the expiry date.