Notifying the broker of intention to exercise
Trader X has a call option that he wants to exercise because he feels that owning the underlying stock will help him to capture the upside to the stock in the long term.To exercise the call, he has to notify his broker that he wants to exercise the call. (Note that the procedure and timing of informing the broker will differ from broker to broker. If in doubt, do check with your broker on your responsibilities.) Trader X’s broker or brokerage firm will then notify The Options Clearing Corporation (OCC) of Trader X’s intention to exercise the call option.
Random assignment by OCC
The OCC has a random procedure of assignment. After the OCC receives the notification of intention to exercise, the OCC will proceed to assign an exercise notice to a clearing account of a firm, who is also a member of OCC. This firm must carry an exact short position of the call option bought by Trader X(option holder). In essence, the OCC is notifying the firm of Trader X’s intention to exercise. The firm then sends this notice to one of its clients randomly with an identical call option, only with a short position on it. The process of assignment is random. At times, the firm will follow a first in first out procedure.
Once a call writer has been assigned the exercise notice, the writer of the option is obligated to sell shares to the exercise price of the call option contract. This obligation must be settled within 3 days of exercise date. The settlement of options exercise occurs through the National Securities Clearing Corporation. If in doubt, seek your broker’s advice on this.
The above is an example of the exercise and assignment process. The same procedures and processes take place when a put is exercised and assigned to a put writer.
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