I sold a Put Option months ago. The Option was deep in the money and expired last Friday, but was assigned early the previous Wednesday afternoon. Why? What does the holder of the Option gain from doing this?
I understand early assignment of a Call Option when the underlying is about to pay a dividend greater than the Option's extrinsic value; but early assignment of a Put Option makes no sense to me.
When options are deep in the money they tend to have poor liquidity. A wide bid-ask spread can make it more lucrative to exercise a long option than to sell to close.
It could also be someone that bought a put as a hedge and wanted to free up capital by selling shares and didn't know they were wasting extrinsic value by exercising.
For the moment, let's ignore a pending dividend. Deep ITM options nearing expiration tend to have no time premium remaining and often trade for less than parity (the bid is less than the intrinsic value). If the option's owner sells it at that inferior price, he takes a haircut and presents the buyer with a 25 cent discount arb, something the owner could just as easily do himself.
For example, XYZ is $40.00 and the $50 put's bid is $9.75 which is a 25 cent haircut if the owner sells at this price. He could offer it (STC) at a higher price and might do a bit better but realizing the full $10 is very unlikely because there's no incentive for anyone to give fair value. So instead, he buys the stock for $40 and immediately exercises the put to sell at $50, netting the full $10. The exercise results in early assignment of the short put and guess who the winner of that was the Wednesday before expiration?
A possible but less likely reason for early exercise is that the put was a hedge and the share owner wanted to sell his shares and close his option position simultaneously. Also possible but even less likely is an uninformed trader exercising options that have remaining time premium.
I understand early assignment of a Call Option when the underlying is about to pay a dividend greater than the Option's extrinsic value; but early assignment of a Put Option makes no sense to me.
I read this all the time and I just don't get it. If the call has remaining time premium, exercising it throws away that time premium. It makes more sense to sell the call and buy the stock. There's no profitable arb this way though it does exist with the put.
