Covered call writing and selling cash-secured puts involves investing our hard-earned money. Did you ever wonder who guarantees these trades? It’s not our broker or even our broker’s clearing firm. It’s the Options Clearing Corporation or the OCC.
This is an organization that acts as both the issuer and guarantor for option and futures contracts. The Options Clearing Corporation operates under the jurisdiction of the U.S. Securities and Exchange Commission (SEC) and the Commodities Futures Trading Commission (CFTC). Under its SEC jurisdiction, the OCC clears transactions for put and call options, stock indexes, foreign currencies, interest rate composites and single-stock futures. It is the ultimate resource in buy/sell option transactions as well as exercise and the assignment. In effect, The OCC guarantees every trade.
Let’s say that John buys option A through broker B. Broker B then submits the trade to clearing firm C which then sends the trade information to the OCC.
Meanwhile, Ann, an option seller (possibly a market-maker) submits her trade to clearing firm D which also sends the trade information to the OCC. The OCC then matches up the two trades. Now what if John, the option buyer, wants to exercise the option and own the underlying shares but Ann, the option seller, wants to buy the option to close her position? Both trades then go from broker to clearing firm and to the OCC. The OCC will then locate the appropriate customer who was short the option to then deliver the shares to John’s clearing firm and then to John as well as a different appropriate customer to take the other side of Ann’s trade. The process of exercise and assignment is done either randomly or first in, first out (FIFO) where the oldest inventory is sold to the most recent buyer. Here’s a flow chart showing how these trades are executed:
Many retail investors frequently wonder what happens to the option buyer who bought the contracts we sold and then bought back. The purpose of this article is to demonstrate how the system works to accommodate both buyers and sellers and therefore guarantee all trades executed.
Next live seminar:
Monday, October 27, 2014
Spain, France, Italy, Turkey and Greece then back to the US
Worries over the European economies negatively impacted US markets this past week. Federal Reserve officials are lowering forecasts for US economic growth as a result of disappointing growth in Europe, Japan and China that could slow US exports. Along with these concerns is the fact that a strengthening US dollar which leads to higher prices abroad will also negatively impact US exports:
- In the Fed minutes from the FOMC meeting from September 16-17, there was a discussion of removing the language “considerable time” when referencing the time frame the central bank plans to keep short-term interest rates near zero
- Initial jobless claims for the week ending October 4th came in at 287,000, below the 295,000 anticipated by analysts
- In August, consumer credit rose by $13.5 billion, a 5.1% annualized rate, the smallest increase since November, 2013
For the week, the S&P 500 dropped by 3.1%, for a year-to-date return of 4.8%, including dividends.
IBD: Market in correction
GMI: 1/6- Sell signal since market close on September 26, 2014
BCI: This site is anticipating a very strong earnings season but is concerned about recent geo-political and global economic factors that may influence investors in the short term. Therefore, despite being bullish on our economy and on the upcoming earnings season, I am taking a cautious approach in all new positions and favoring only in-the-money strikes for all new positions until our markets stabilize.
Wishing you the best in investing,