What is an Expiration Date (Derivatives)
An expiration date in derivatives is the last day that a derivative, such as options or futures, is valid. On or before this day investors will have already had to decide what to do which their expiring position.
Before an option expires, those that own the option can choose to exercise the option, close the position to realize their profit or loss, or let the contract expire worthless.
Futures traders holding the expiring contract must close it on or before expiration, often called the "final trading day," to realize their profit or loss. Alternatively, they can hold the contract and ask their broker to buy/sell the underlying asset that the contract represents. Retails traders don't typically do this, but business do, such as an oil producer using futures contracts to sell their oil. Futures traders can also "roll" their position. This is a closing of their current trade, and an immediate reinstitution of the trade in a contract that is further out from expiry.
Breaking Down Expiration Date (Derivatives)
Expiration dates, and what they represent, vary based on the derivative being traded.
The expiration date for listed stock options in the United States is normally the third Friday of the contract month, which is the month when the contract expires. However, when that Friday falls on a holiday, the expiration date is on the Thursday immediately before the third Friday. Once an options or futures contract passes its expiration date, the contract is invalid. The last day to trade equity options is the Friday prior to expiry. Therefore, traders must decide what to do with their options by this last trading day.
Some options have an automatic exercise provision. These options are automatically exercised if they are in the money (OTM) at the time of expiry. If a trader doesn't want to be exercised, they must close out or roll the position by the last trading day.
Index options also expire on the third Friday of the month, and this is also the last trading day for American style index options. For European style index options, the last trading is typically the day before expiration.
Expiration and Option Value
In general, the longer a stock has to expiration, the more time it has to reach its strike price and thus the more time value it has.
There are two types of options, calls and puts. Calls give the holder the right, but not the obligation, to buy a stock if it reaches a certain strike price by the expiration date. Puts give the holder the right, but not the obligation, to sell a stock if it reaches a certain strike price by the expiration date. This is why the expiration date is so important to options traders. The concept of time is at the heart of what gives options their value. After the put or call expires, time value does not exist. In other words, once the derivative expires the investor does not retain any rights that go along with owning the call or put.
Expiration and Futures Value
Futures are different than options in that even an out of the money futures contract (losing position) holds value after expiry. For example, an oil contract represents barrels of oil. If a trader holds that contract until expiry, it is because they either want to buy (they bought the contract) or sell (they sold the contract) the oil that the contract represents. Therefore, the futures contract does not expire worthless, and the parties involved are liable to each other to fulfill their end of the contract. Those that don't want to liable to fulfill contract must roll or close their positions on or before the last trading day.