We’re starting a series of posts on common questions options traders, particularly beginners, have. So here’s the first one:
Question To Be Answered: Can You Sell A Call Option Before It Hits The Strike Price?
The short answer is, yes, you can. Options are tradeable and you can sell them anytime. Even if you don’t own them in the first place (see below).
It also would be more useful to answer the related question on desirability: is it a good idea?
Scenario 1: You Own An OTM Option
Let’s say you own a call option with a strike price of 120 and the stock price is $100. In other words, it is $20 out of the money. And there are 20 days before expiry (say).
An OTM option before expiry will have intrinsic value. It will still have a value which can be sold in the market.
This is better than the alternative of exercising the option: you’d receive stock for which you’d pay $120/share, not recommended when stock is available at $100 on the open market.
The key decision on whether to sell or hold depends on whether you believe the stock is going to move up sufficiently within the next 20 days to counter the effect of time decay.
Long options positions naturally reduce in value, all other things being equal, as they are theta positive.
Scenario 2: You Own An ITM Option
Let’s say you own a call option with a strike price of 80 and the stock price is $100. In other words, it is $20 in the money. And there are 20 days before expiry (say).
In this case the option will have both extrinsic value of $20 (the difference between the strike and stock prices) plus intrinsic value due to there still being 20 days remaining on the options contract.
As above this intrinsic value will fall over time, all things being equal, and so again you should only sell if you believe the stock will not rise to counteract this eventual loss in intrinsic value due to time decay.
Scenario 3: You Don’t Own The Call Option
Options traders can actually sell options that they don’t own – called writing an option.
This can be lucrative: both ITM and OTM options have intrinsic value which falls over time. Hence if the option expires OTM it will be worth it, and the premium ‘sold’ is kept as profit.
It is also risky: should a call option expire ITM it will be exercised and the option holder is entitled to purchase stock from you at the lower strike price (compared to the current stock price).
However many stock holders do sell call options against their portfolios, receiving additional income from the sold option premiums, at the risk of having their stock ‘called away’ (in other being forced to sell to the call option holder if it expires ITM). This is the covered call option strategy.
In summary then it is almost always possible to sell a call option before it hits the strike price. The more pertinent question is whether it is desirable to do so.