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stock has risen to $52, those FAJ contracts may now be worth $3, in which case buying two contracts would cost you $600. This translates to a $200 loss. On the other hand those options may have gone down in price to $1. Maybe because Ford’s stock has declined in price or you are closer to the expiration date, or a combination of both factors. In that case offsetting the 2 FAJ contracts would cost you $200 (two contracts at $1 premium) and you keep the $200 difference.
• The options expire worthless. If you hold onto your position until the expiration date and Ford’s stock price on the expiration date is $50 or less, those options would expire worthless. The holders will not exercise them at that point since they could buy Ford shares at $50 or less from the stock market. With the options expired, your obligation to the holder is terminated and you keep the $400 proceeds that you collected when you wrote the contracts.
• The holder exercises the options. This means that you are now obligated to sell 200 shares of Ford to the holder at $50 per share. Normally this would only happen at expiration. No one would exercise an option with time left as they would forfeit the time value by exercising, but theoretically they can as they have the right to do so. Now if at expiration Ford happens to be trading above $50, you can rest assured that those contracts will be exercised. This is known as assignment, where the shares represented by the call options are taken away from the option sellers and assigned to the option holders. Unlike futures, options are not cash-settled at expiration. You actually would need to come up with the 200 Ford shares and sell them to the holders (through OCC of course) for $50 per share. How are you going to do this? This is a good segue into the next section. After that we will return to and conclude our discussion of writing call options. …