re: The assignment problem in covered call writing
Hi Chuz,
Several months ago I sold call options on two of my stocks. As luck would have it, the prices of both stocks subsequently have jumped sharply, causing the values of the options to soar. Consequently, I am very likely facing an assignment of shares on both options when they expire in Jan 2000. I have of late been wrestling with the question of how to manage an assignment, which, I have discovered, is more difficult than I had imagined it to be.
The two assignment issues I am most concerned about are how to minimize transactions costs and how to minimize taxes. According to conventional wisdom the best way for option writers (or holders) to close out their position is with an offsetting transaction. Yet I'm not sure this is necessarily valid if one's goal is to minimize brokerage costs. I think it may actually be cheaper to choose the assignment route, which can be done by buying in the market the shares you need that are being called.
Example: Suppose you have written call options on 1000 shares of ABC Corp. Let's assume that at expiry the price of the stock is $80, the strike price is $50, and the price of the option is $30. If you elect to reverse your option position by buying 10 calls, you will pay a relatively high commission to Schwab, or whomever. In addition, you will incur a cost due to the MM's spread. The commission you would pay Schwab alone would be ~$189. I have no idea how much you would pay the MM, but have observed from experience that their rates can be outrageous. If we assume for the sake of discussion that any trade with the MM will cost you 1/2 pt on the spread, this would mean $500 added cost. The total cost in this scenario: $689.
Compare that to the alternative of buying the shares in the market and delivering them. If you buy 1000 sh. at $80, Schwab will charge $243. Schwab will charge another $210 to assign them. TOTAL COST = $453.
This example suggests to me that a call writer should do some calculations before deciding whether to do a reverse trade vs. meeting an assignment. If he is able to negotiate commissions w/ his broker, obviously that also should be considered. The broker will benefit more if there is assignment, and hence may be willing to negotiate a lower commission to encourage that outcome.
Insofar as minimizing taxes are concerned, it seems I didn't get to that but will post an analysis if anyone is interested.
Seasons Greetings to you!
Geoff |
