The expiration date of a stock option represents the day on which the contract is no longer valid. After this date, the contract no longer exists unless it is exercised prior to expiring. In the U.S. markets, the expiration date for all option contracts is set at the third Friday of every month (unless it falls on a holiday).
Why is the Expiration Date Important?
The expiration date is an important part of defining a stock option and the value (or premium) that is tied to the contract. For starters, an investor who has purchased a call or put that lets their contracts expire will have wasted their entire investment. An option that expires without being exercised becomes worthless after the expiration date.
The expiration date also plays a crucial role in helping to set the premium for the contract. For example, an out of the money option (put or call) that has 6 months till expiration is usually worth more than one that has 3 months till expiration. The option that doesn’t expire for 6 months is considered to be worth more because it has more time to become in the money. This concept is usually referred to as time value. As you can tell, the expiration date plays a critical role in determining the premium of an option.
Option Trading Strategies
Any successful investor will include the expiration date into their option trading strategy. In some cases, there are strategies where the investor looks for options that are set to expire very soon. For example, an investor who sells covered calls will normally pick out options that are set to expire in the next one or two months. This is because investors are looking for call options that are out of the money but still are close enough to the strike price to hold some value. The main goal of a covered call trader is to actually hold onto their stock while earning the premium that was paid.
Another option trading strategy may target deep in the money call options that have several months to expiration. The bullish strategy here is to purchase call options on quality stocks that are well in the money that have very little chance of becoming out of the money. The investor then waits for a positive run up in the stock and sells the call option back for a higher premium than what they originally paid. The difference in the purchase price and the sale price is the profit earned by the investor. The bottom line here is that the expiration date is a critical piece of data used by the investor to implement their strategy.
The expiration date on a stock option lets investors know when the contract is set to expire. If the option is not exercised on or prior to this date it then becomes worthless and no longer exists. The expiration date also plays a critical role in setting the premium of an option and is used to help investors implement their option trading strategy.