Written By: Chhavi Garg
What is Option Expiry?
Hey there, future options trader! Ever wondered what option expiry is all about?
Option expiry or expiration date is the specific date when an options contract becomes invalid. At this point, the option holder must decide what to do with their contract:
– Exercise the option
– Let the option expire worthless
– Close the position
Example: Sarah brought a call option for Tata Steel stock. Here’s what she learned:
Scenario: (for simplicity we are only talking in terms of 1 quantity)
– Option Purchase: Call option for Tata Steel of Strike price of Rs 150
– Expiration Date: Third Friday of the month
– Current Stock Price: Rs 150
– Premium Paid: Rs 5
Possible Outcomes on expiry:
1. Stock goes up to Rs 160 ✅ Profit time!
2. Stock stays at Rs 155 😐 Break even
3. Stock drops to Rs 145 ❌ Loss
Types of Option Expiration Dates
Weekly Options
Introduced to provide more flexibility, weekly options have shorter lifecycles and expire every week. They allow traders to take more targeted, short-term positions.
Example- Let’s say you want to trade options on the Nifty 50 index.
- Current Date: 24th December
- Option Expiry Date: 26th December (Next Thursday)
Now, you think that Nifty 50 will increase sharply next week, so you decide to buy a Call Option with a strike price of 24,500 for expiry on 26th December.
- If Nifty 50 rises above 24,500 by 26th December, your call option will become profitable.
- If Nifty 50 does not rise above 24,500, the option expires worthless.
Weekly options are great for traders who want to capitalize on short-term movements in the market, such as a sudden news event or short-term trends.
Monthly Expiration
Monthly options in India expire on the last Thursday of each month. This expiration cycle is standard for most index options, including Nifty 50 and Bank Nifty. It also applies to options on individual stocks. Monthly options provide medium-term trading opportunities, allowing traders to plan for the entire month. If the last Thursday of the month is a public holiday, the expiry date is moved to the previous business day (Wednesday).
Example: Vanshika who is bullish on Reliance Industries. So, she buys Reliance Industries Call options with a monthly expiry of January 2025. She believes the stock price will steadily increase over the next month. Let’s say she buys a call option with a strike price of Rs 1,300 at a premium of Rs 30 per share.
Possible Outcomes:
- If Reliance’s price goes up significantly by the last Thursday of January (the expiry date), for example, if the stock price rises to Rs 1,400, her call option will have an intrinsic value of Rs 100 (Rs 1,400 – Rs 1,300). This means the option contract itself holds value, and she can exercise it to buy Reliance shares at Rs 1,300 and immediately sell them at the market price of Rs 1,400. After accounting for the Rs 30 premium she initially paid, her profit would be Rs 70 per share (Rs 100 – Rs 30).
- If Reliance’s price moves opposite direction or goes down, for example, if it drops below Rs 2,500, her options will expire worthless, and she will lose the entire premium paid, which is Rs 30 per share.
Vanshika opted for monthly expiry because she has longer- term outlook and wants to give her investment more time to potentially generate profits.
Quarterly
Quarterly options expire at the end of each calendar quarter: 31st March, 30th June, 20th September and 31st December. This offer traders long term perspective and strategies compared to monthly or weekly expiries. These options are often used by institutional investors or traders who want to manage their portfolios or make long-term bets based on quarterly performance or macroeconomic factors.
Examples: Desvelado Advisory anticipates a significant upward trend in the banking sector over the next few months. They buy Bank Nifty Call options with a quarterly expiry in June.
Possible Outcomes:
- If the Bank Nifty index rises substantially by the last Thursday of June, then their options will be profitable.
- If the Bank Nifty index performs poorly, then their options will expire worthless.
Traders with longer-term view on the market direction can utilize quarterly options and compared to shorter- term options, quarterly options experience slower time decay (theta), which can be beneficial for long term strategies.
Risks Associated with Option Expiry
Imagine options trading as a high-stakes chess game where time, market mood, and unexpected moves can completely change your strategy. Let’s break down the risks that can turn your investment dreams into a nail-biting experience.
– Time Decay
Picture an ice cream cone on a hot summer day. Just like ice cream melts, your option’s value disappears as expiration approaches. This means the option’s value erodes more quickly in the final day before expiration.
Market volatility is like weather in a tropical region – unpredictable and potentially destructive. Market volatility can significantly affect an option’s value near expiration. Sudden price movements can dramatically change an option’s profitability.
– Liquidity Risk
Imagine trying to sell a rare collectible when no one’s interested. That’s liquidity risk in options trading where there is limited market interest and exit strategies.
Option expiry is a fundamental concept that can significantly impact trading outcomes. By understanding the mechanics of expiration, traders can make more informed decisions and develop more sophisticated options trading strategies.
Remember, successful options trading requires continuous learning, careful risk management, and a thorough understanding of market dynamics.