How to Exercise a Call Option With Your Broker

A call option is a financial contract that provides the holder the right, but not the obligation, to purchase an underlying asset at a predetermined price by a specific date. This article guides individuals through exercising a call option via their brokerage account. Understanding the mechanics of exercising is for investors who wish to convert their option rights into direct ownership of the underlying asset.

Understanding Call Option Fundamentals

The “strike price” is the fixed price at which the underlying asset can be bought, as specified in the option contract. The “expiration date” marks the last day on which the option can be exercised, after which the contract becomes void. The “underlying asset” is the specific security, such as a stock, that the option contract gives the right to buy.

A single option contract typically represents 100 shares of the underlying asset. The quoted price per share must be multiplied by 100 to determine the total contract value.

A call option is “in-the-money” (ITM) when the current market price of the underlying asset is higher than the option’s strike price. This means exercising the option allows the holder to purchase the asset below its current market value, indicating an immediate economic benefit. Conversely, if the underlying price is below the strike price, the option is “out-of-the-money,” and if the prices are equal, it is “at-the-money.”

Deciding to Exercise Your Call Option

The decision to exercise a call option involves careful financial consideration. One primary factor is profitability, estimated by subtracting the strike price from the underlying asset’s current market price, multiplying by 100, and then subtracting the premium paid. This calculation helps determine the potential profit.

“Time value” is the portion of an option’s premium related to remaining time until expiration and asset volatility. Exercising an option forfeits any remaining time value. Selling the option in the open market may be more financially advantageous, especially with significant time until expiration, as it captures both intrinsic and extrinsic value.

A holder might exercise to acquire direct stock ownership. This could be motivated by a long-term investment strategy, the intention to receive future dividends, or a belief in future price appreciation. Acquiring shares provides direct equity exposure and voting rights, which options contracts do not.

Exercising a call option requires sufficient capital in the brokerage account to cover the purchase of 100 shares at the strike price per contract. This capital must be readily available to fulfill the obligation of buying the shares. Without adequate funds, the exercise request may not be processed, potentially leading to complications or the option expiring worthless.

For dividend-paying stocks, exercising before the ex-dividend date allows the option holder to become a shareholder of record and receive the upcoming dividend payment. This can influence the timing of an exercise decision, especially for deep in-the-money options nearing an ex-dividend date.

Executing the Exercise Request

Submit the exercise request to your brokerage firm. Many platforms offer an online interface to initiate the request through your trading account. Alternatively, an exercise request can be made by contacting a broker representative directly by phone. The broker will guide the process and ensure all necessary steps are completed.

The broker will require specific information to process the request accurately. This includes the option symbol, the number of contracts to be exercised, and a clear confirmation of the intent to exercise. Providing precise details helps prevent errors and ensures the correct shares are acquired.

The brokerage firm will verify that the account holds sufficient available funds to cover the purchase of the underlying shares at the specified strike price. If funds are insufficient, the broker may request a deposit or the exercise may be denied.

For American-style options, which can be exercised any time up to and including the expiration date, there is a deadline on the expiration day for submitting instructions. Confirm your broker’s specific cut-off time to ensure the request is processed on the desired date.

Once the exercise request is processed, the shares will be purchased at the strike price. The settlement process for the acquired shares occurs on a T+1 basis, meaning the shares are delivered to the account one business day after the trade date.

Outcomes and Next Steps After Exercising

Upon successful exercise of a call option, the underlying shares will be delivered to your brokerage account after the settlement period. You will now own the actual shares of the company instead of an option contract. Your brokerage account view will update to reflect this change, showing the shares as part of your holdings.

With the shares now in your account, you have several choices regarding your investment. You can choose to hold the shares for the long term, aligning with an investment strategy focused on potential future growth or dividend income. Holding the shares allows you to participate in any further appreciation of the stock price and to receive any declared dividends.

Alternatively, you may decide to sell the newly acquired shares immediately, or at a later date, to realize your profit or manage your portfolio. This can be done through your brokerage platform, similar to selling any other stock. The decision to hold or sell depends on your individual investment goals, market outlook, and risk tolerance.

Exercising an option and subsequently holding or selling the shares will have tax implications. Any profit realized from the transaction may be subject to capital gains tax. The specific tax treatment, including whether gains are short-term or long-term, depends on your holding period for the shares. Consulting with a qualified tax professional is advisable to understand the full tax consequences based on your individual financial situation and to ensure compliance with applicable tax laws.