NaughtyPines

OPTIONS TIP: ALWAYS BE AWARE OF AND READY FOR ASSIGNMENT RISK

NYSE:CRM   SALESFORCE COM INC
One of the many wonderful things about trading short options is "assignment risk," particularly with naked shorts. (You're not subject to this risk if you're long; if you want the stock at your long strike, you have to "exercise" those options, which is a whole different animal). Being aware of this risk and planning for the possibility that you will be assigned shares of the underlying is part of the game, so it's important to understand you're at risk and what the implications of that risk are. Let me give you an example.

On 2/23, I sold a short strangle in CRM             , looking to take advantage of the ordinary volatility contraction that occurs post earnings. The original setup involved a 70 short call and a short put somewhere below (the put side isn't particularly important in this example, since everything is currently fine and dandy with the put side). Although price was below the 70 strike as the setup was approaching expiry, I decided to roll the short call out another week to the 71 short call to give the trade a little more time and room to work out.

Last Friday, CRM's price breached my 71 short call strike (it reached a high of 72.18), but settled just .08 north of my strike at 71.08 by the end of the day. Nevertheless, my short call strike is in breach, and presently I'm at risk of assignment. In this particular case, I'm at risk of being assigned 100 shares per option contract of short CRM             at $71 per share (since I'm short the $71 call; when price breaches your short put strike, you're at risk of being assigned long stock at the price of your short put strike).

The question now becomes: (1) Do I mind being potentially assigned $71 short shares in CRM?; (2) Do I have the buying power to accommodate the assignment?; (3) Would I prefer having the assignment risk on the put side, if anything (i.e., would I prefer being long CRM             at some price below to being short CRM             here)?; or (4) Do I not want to be assigned at all (long or short shares)?

The answer to these questions will obviously influence your decision as to what to do with the setup. If, for example, I didn't care about being assigned short CRM             shares at this price point, then I would probably just let the setup ride and see what happens with it as expiry approaches. Naturally, if I've placed myself in a position of not having enough buying power to accommodate any assignment here, my hands are tied; I've got to do something with the short call side to "get it out of danger."

Similarly, if I would prefer having the assignment risk on the put side or just don't feel like owning CRM             shares long or short (it ties up buying power after all), I still might need to do something if price doesn't quickly retreat below my short call, as I could be potentially assigned shares at virtually any time. If I would prefer having the risk on the put side, I may roll the call side out, but skew the put side to suck in more credit there by selling a put at a strike closer to current price than the call side is.

Point in fact, it is a rare occurrence to be assigned in advance of expiration; less than 10% of long options are actually exercised, with the vast majority being sold. Out of the hundreds if not thousands of options trades I did last year, I was only assigned a total of two times. Nevertheless, the assignment of shares is considered "random" and represents a risk of some measurable value.

Getting assigned is rarely "the end of the world" unless you are not mentally prepared for it and your portfolio is not able to accommodate it with the necessary buying power (in this case, you'll need to have about $7100 free to accommodate the assignment of 100 shares of CRM             at $71). If assigned short shares, sell puts against your short shares; if assigned long, sell calls against your underlying stock ... .
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