Do you know how professional traders ride options into expiration?
And to be clear, I’m not talking about 20-cent options that are $5 out of the money (OTM) on the underlying stock.
I’m talking about when you have an options trade that’s in the money (ITM) — or when the price of the underlying stock is higher than the strike price of the option.
A lot of trading books and “experts” will tell you to close out ITM options the week of expiration! Or to close them out early before they expire because of time decay!
And I’m here to tell you that’s all junk…
When you’re trading ITM options and approaching expiration, don’t worry…
Because you’re basically playing the stock itself at that point.
Trading ITM Options at Expiration
To show you what I’m talking about, we’re going to look at a call option in Keurig Dr. Pepper Inc. (NYSE: KDP).
In this example, we can see that two days before expiration, the stock was around $35.80 a share and barely moving at all. The $35 strike calls were trading for a small premium, around $0.80.
Common sense suggests there’s no reason to hold on any longer, and that you should exit this position.
But that’s not always the best advice, especially when managing risk properly…
Frankly, if a trader is worried they need to close their ITM options early because of expiration, they’re trading too big of a position.
In our KDP example, the stock jumped above $36.40 a share the next day. Now, a 1.5% stock move doesn’t sound like a huge deal, but these are ITM calls.
That means when the stock gains get priced into the option premium almost dollar-for-dollar. At that point, it’s basically playing a stock replacement.
So those calls that were $0.80 on Wednesday ended up $1.40 by Thursday. That’s a 75% jump in less than a day with another day to go!
Heck, a lot of professional traders like myself might even hang on until Friday if the stock hasn’t quite made its break yet.
Now you might be saying, Lance, there’s only one day to go until expiration. Isn’t that scary?
Of course traders need to check with their broker so they don’t get assigned stock, but otherwise, no… And in this short video, I’ll walk you through the three possible outcomes for trading ITM options at expiration, and show why selling early isn’t always the best decision.
Don’t forget you can follow me @LanceIppolito on Twitter, Instagram and our YouTube channel for more trading insights and tips. And as always, you can find me right here talking stocks and options trading — and printing money — on WealthPress.com!