Exercise

What does 'Exercise' mean

Exercise means to put into effect the right specified in a contract. In options trading, the option holder has the right, but not the obligation, to buy or sell the underlying instrument at a specified price on or before a specified date in the future. If the holder decides to buy or sell the underlying instrument (rather than allowing the contract to expire worthless or closing out the position), he or she will exercise the option, and make use of the right available in the contract.

BREAKING DOWN 'Exercise'

In options trading, the buyer (or holder) of a call contract may exercise his or her right to buy the underlying shares at the specified price (the strike price); the buyer of a put contract may exercise his or her right to sell the underlying shares at the agreed-upon price. If the buyer chooses to exercise the option, he or she must inform the option seller (the writer of the option contract). This is achieved through an exercise notice, the broker's notification that a client wishes to exercise his or her right to buy or sell the underlying security. The exercise notice is forwarded to the option seller via the Options Clearing Corporation. Even though the buyer has the right but not the obligation to exercise the option, the seller is obligated to fulfill the terms of the contract if the buyer decides to exercise the option.

The majority of options contracts are not exercised, but instead are allowed to expire worthless or are closed by opposing positions. For example, an option holder can close out a long call or put prior to expiration by selling it (assuming the contract has market value). If an option expires unexercised, the holder no longer has any of the rights granted in the contract. In addition, the holder loses the premium that was paid for the option, along with any commissions and fees related to its purchase.

RELATED TERMS
  1. Call Over

    When the buyer of a call option exercises the option. In options ...
  2. Put

    An option contract giving the owner the right, but not the obligation, ...
  3. Options On Futures

    An option on a futures contract gives the holder the right to ...
  4. Exercise Price

    The price at which the underlying security can be purchased (call ...
  5. Early Exercise

    The exercise of an option prior to its expiration date. Early ...
  6. American Option

    An option that can be exercised anytime during its life. American ...
Related Articles
  1. Investing

    Options on Futures

    Options on futures contracts offer another way for day traders to use options. These are traded on the same exchange as the underlying futures contract. Traders should take care to understand ...
  2. Markets

    How to Trade Options on Government Bonds

    A look at trading options on debt instruments, like U.S. Treasury bonds and other government securities.
  3. Investing

    4 Reasons To Hold Onto An Option

    There are times when an investor shouldn't exercise an option. Find out when to hold and when to fold.
  4. Trading

    Three Ways to Profit Using Put Options

    A brief overview of how to profit from using put options in your portfolio.
  5. Trading

    Three Ways to Profit Using Call Options

    A brief overview of how to provide from using call options in your portfolio.
  6. Trading

    What's The Difference Between Options And Futures?

    An option gives the buyer the right, but not the obligation, to buy or sell a certain asset at a set price during the life of the contract. A futures contract gives the buyer the obligation to ...
  7. Trading

    Options Hazards That Can Bruise Your Portfolio

    Learn the top three risks and how they can affect you on either side of an options trade.
  8. ETFs & Mutual Funds

    3 Reasons to Use ETF Options Over Futures (SPY, QQQ)

    Learn about exchange-traded fund (ETF) options and index futures, and why it might be a better decision to use ETF options instead of futures.
  9. Investing

    Getting Acquainted With Options Trading

    Learn more about stock options, including some basic terminology and the source of profits.
  10. Trading

    Introduction - Day Trading and Options

    Options have not been a tradition part of day-trading strategy, but this is quickly changing.
RELATED FAQS
  1. After exercising a put option, can I still hold my option contract in order to sell ...

    Once a put option contract has been exercised, that contract does not exist anymore. A put option grants you the right to ... Read Answer >>
  2. How is a put option exercised?

    A put option is a contract that gives the option holder the right, but not obligation, to sell a set amount of shares (1 ... Read Answer >>
  3. How do I change my strike price once the trade has been placed already?

    Learn how the strike prices for call and put options work, and understand how different types of options can be exercised ... Read Answer >>
  4. When holding an option through expiration date, are you automatically paid any profits, ...

    Holding an option through the expiration date without selling does not automatically guarantee you profits, but it might ... Read Answer >>
  5. Does the seller (the writer) of an option determine the details of the option contract?

    The quick answer is yes and no. It all depends on where the option is traded. An option contract is an agreement between ... Read Answer >>
  6. How can derivatives be used to earn income?

    Learn how option selling strategies can be used to collect premium amounts as income, and understand how selling covered ... Read Answer >>
Hot Definitions
  1. Diversification

    A risk management technique that mixes a wide variety of investments within a portfolio. The rationale behind this technique ...
  2. European Union - EU

    A group of European countries that participates in the world economy as one economic unit and operates under one official ...
  3. Sell-Off

    The rapid selling of securities, such as stocks, bonds and commodities. The increase in supply leads to a decline in the ...
  4. Brazil, Russia, India And China - BRIC

    An acronym for the economies of Brazil, Russia, India and China combined. It has been speculated that by 2050 these four ...
  5. Brexit

    The Brexit, an abbreviation of "British exit" that mirrors the term Grexit, refers to the possibility of Britain's withdrawal ...
  6. Underweight

    1. A situation where a portfolio does not hold a sufficient amount of a particular security when compared to the security's ...
Trading Center