How to Close a Sell Put Option Position

Closing a sold put option position is a strategic action undertaken by an options seller to terminate their existing obligation to potentially purchase shares of an underlying asset. When an investor sells a put option, they receive a premium in exchange for agreeing to buy 100 shares of the underlying stock at a specified strike price, should the option buyer choose to exercise their right. This article provides practical guidance on managing such positions, detailing the methods available to close them and their financial implications.

Understanding Your Options for Closing

When you have sold a put option, your position carries an obligation that you may wish to terminate before expiration. There are two primary ways a sold put option position can conclude: through an active “buy to close” transaction or through passive option assignment. Understanding these two pathways is important for any options seller.

The “Buy to Close” Action

The “buy to close” action is the most common and active method for an options seller to exit their position. This involves purchasing an identical option contract to the one initially sold, effectively offsetting the original obligation. This action allows the seller to realize any profits or losses on the trade before the option’s expiration date. Traders often use this method to manage risk or to lock in gains if the option’s value has declined since it was sold.

Option Assignment

Option assignment represents the alternative, more passive outcome for a sold put option if it is not actively closed. When a sold put option is assigned, the option seller becomes obligated to purchase the underlying shares at the strike price. This occurs because the option holder has chosen to exercise their right to sell shares at that predetermined price. Assignment typically happens if the option is “in-the-money” at or near its expiration, meaning the market price of the underlying asset has fallen below the put option’s strike price. As the seller, you are then required to fulfill the obligation by buying 100 shares per contract at the specified strike price, regardless of the current market value. This outcome shifts the position from a derivative obligation to holding actual shares of the underlying company.

Placing a “Buy to Close” Order

Executing a “buy to close” order on an online brokerage platform involves a series of steps to ensure the correct position is terminated. This process begins by navigating to the options trading section of your brokerage account. Most platforms provide a dedicated interface for managing open options positions.

Once on the options trading screen, you will need to locate the specific sold put option from your portfolio that you intend to close. This usually involves identifying the correct underlying stock, the strike price, and the expiration date of the contract. After selecting the specific position, you will typically find an option to “buy to close” or a similar phrase. This action initiates the order to purchase an identical contract to offset your existing short position.

When placing the order, you will need to specify the number of contracts you wish to close. Most platforms then present various order types to choose from.

A market order will typically execute immediately at the best available price, offering speed but without guaranteeing a specific price.
A limit order allows you to set a maximum price you are willing to pay to close the option, ensuring that you do not overpay. However, it may not execute if the market price does not reach your specified limit.
Some platforms may also offer stop orders, which convert into market or limit orders once a certain price threshold is met, useful for risk management.

After selecting the order type and quantity, you will review the order details, which include the estimated cost of the transaction and any associated commissions or fees. Brokerage commissions for options trades can vary, often ranging from a flat fee per trade plus a per-contract fee. It is important to confirm these details before submission. Upon submitting the order, the brokerage system will process it, and you can typically monitor its status through an “order status” or “pending orders” section until it is executed.

Financial Impact of Closing or Assignment

Understanding the financial consequences of either actively closing a sold put option or allowing it to be assigned is important for managing your investment outcomes. Each method results in distinct financial impacts on your capital and portfolio.

Calculating Profit or Loss from “Buy to Close”

When you “buy to close” a sold put option, the profit or loss is determined by comparing the premium initially received when you sold the option with the cost incurred to buy it back. If the cost to buy back the option is less than the premium you originally collected, you realize a profit. For example, if you sold a put for $2.00 per share (receiving $200 for one contract controlling 100 shares) and later bought it back for $0.50 per share (costing $50), your profit would be $150, minus any commissions.

Conversely, if the cost to buy back the option exceeds the premium initially received, you incur a loss. This occurs if the option’s value has increased since you sold it, often because the underlying stock price has fallen. The calculation is straightforward: (Premium Received – Cost to Buy Back) x Number of Shares per Contract. This method allows you to crystallize your gains or limit your losses before the option’s expiration.

Financial Implications of Assignment

If your sold put option is assigned, you are obligated to purchase 100 shares of the underlying stock per contract at the specified strike price. This means a significant capital outflow from your brokerage account to cover the cost of buying these shares. For instance, if you sold a put with a $50 strike price and it is assigned, you will need $5,000 to purchase 100 shares, regardless of the current market price of the stock.

While you keep the premium initially received from selling the put, you now own shares of the stock. If the market price of the stock is below the strike price at the time of assignment, you will immediately have an unrealized loss on the purchased shares. For example, if you buy shares at $50 through assignment but the market price is $45, you have an immediate $5.00 per share unrealized loss. This outcome shifts your exposure from an options contract to direct equity ownership, with all the associated risks and potential for future gains or losses from the stock itself.