What is an Allocation Notice
An allocation notice, or exercise notice, in options trading, is an options exercise assignment notice, which is an official notification from an options clearing firm to the writer of an option that the current option holder has exercised and, therefore, the writer must produce shares of the underlying security to complete the options contract. This may require the option's writer to purchase or sell securities on the open market to fulfill the contractual obligation.
An allocation notice can also refer to how a broker or advisor would inform a client who has shown interest in an IPO whether his or her requested allocation of IPO shares is available in full, or if only a fraction of the requested total is available for purchase.
BREAKING DOWN Allocation Notice
When the holder of an option chooses to exercise it, the writer of the option contract (seller) receives an allocation notice, via the Options Clearing Corporation notifying them that the holder is exercising their right to buy or sell the underlying security. 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.
Because such a high percentage of options expire worthless, investors tend to overlook the fact that every contract can be exercised by the current holder. While most options traders avoid holding their contracts at expiration, someone will always be holding the in-the-money options, and will call upon the writer of the option to deliver the goods.
For example, if an owner of a large block of stocks has been writing covered calls to generate income, and the stock has appreciated enough to make the option exercise profitable, whoever is holding the contract at expiration will call on the stockholder to deliver the shares through his or her brokerage firm.