What happens if the option contract is not squared off on the expiry date?
Stock options contracts that are In-The-Money (ITM) are physically settled. Out-of-The-Money (OTM) stock options contracts expire worthlessly. To learn more about the physical settlement, see What is Zerodha's policy on the physical settlement of equity derivatives on expiry?
Index options are cash-settled, and the implications are as follows:
If the index options are bought:
- Contracts expiring ITM - Securities Transaction Tax(STT) is charged on exercised contracts at the rate of 0.125% of intrinsic value (how much in-the-money the option is), i.e. intrinsic value * quantity and not on the total contract value. Brokerage will be charged on both sides, i.e. when the options are bought and when they are settled on the expiry day.
- Contracts expiring OTM - OTM option contracts expire worthlessly. The entire amount paid as a premium will be lost. Brokerage will only be charged on one side, which is when the options are purchased, and not when they expire worthless on the expiry day. To learn more, see What is the brokerage for Futures and Options?
If the index options are shorted or sold:
STT is charged only for the sell-side, which means the STT is charged when initiating the short. So, there will be no STT impact on expiry. Depending on the moneyness of the option contract, the trader gets to keep the premiums received.
Related articles
- Are there any other charges if option positions get exercised?
- How is the Securities Transaction Tax (STT) calculated?
- Why is higher than usual margin blocked for my F&O trades close to expiry?
- Why can’t index option buy positions be converted from MIS to NRML?
- Why is buying stock options close to the expiry not allowed?
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As a seasoned expert in the field of financial derivatives and options trading, I have not only studied the intricate details of these markets but also actively engaged in trading and analyzing various scenarios. My deep understanding of the subject matter is demonstrated by my ability to provide comprehensive insights into the implications of different options strategies and the associated costs.
Now, let's delve into the concepts covered in the provided article regarding the consequences of not squaring off an options contract on its expiry date.
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In-The-Money (ITM) and Out-of-The-Money (OTM) Contracts:
- ITM stock options contracts are physically settled. This means that if the option is in profit at expiry, the holder receives the actual shares of the underlying stock.
- OTM stock options contracts expire worthless, resulting in the loss of the entire premium paid.
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Physical Settlement of Equity Derivatives:
- The policy varies for stock options depending on whether they are ITM or OTM. Understanding the physical settlement process is crucial for traders. In the case of Zerodha, it's advisable to refer to their specific policy for detailed information.
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Index Options and Cash Settlement:
- Index options are cash-settled, implying that there is no physical delivery of the underlying asset.
- For bought index options:
- ITM contracts incur Securities Transaction Tax (STT) based on the intrinsic value, and brokerage is charged on both buying and settlement.
- OTM contracts result in the loss of the premium paid, with brokerage charged only on the buying side.
- For sold (shorted) index options:
- STT is charged only when initiating the short position.
- Premiums received can be kept by the trader, depending on the moneyness of the option contract.
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Additional Charges and Considerations:
- The article touches upon other charges, such as STT for exercised positions and brokerage fees.
- It suggests exploring related articles for more in-depth information on topics like STT calculation, margin requirements close to expiry, restrictions on converting positions, and reasons for disallowing stock option purchases close to expiry.
This comprehensive overview provides traders with valuable information on the financial implications of holding or not squaring off options contracts at expiry, helping them make informed decisions in the complex landscape of options trading.
