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I heard that freeriding is not having the cash to pay for the underlying shares when a call option is exercised.

If I purchase a call option that is ITM and (purchase a put OR short sell) above the call strike price before it is exercised, is that still considered freeriding?

Example: $1,000 cash balance

1 call option at a strike price of $200

new price is $240

cash needed to exercise the option: $20,000

Exercise date is tomorrow

May I either:

  • Short sell 100 shares at $240 and use the cash to cover the call option exercise price
  • OR Purchase a put at a $240 strike price and let both exercise at expiration tomorrow

EDIT: Updated pricing to properly reflect 100 shares per option call

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There are multiple problems with your question.

Example: $1,000 cash balance. 1 call option at a strike price of $200. New price is $240. Cash needed to exercise the option: $2,000

If you own a call with a $200 strike price, if you exercise it, you will need $20k for full payment share purchase, not $2k (or $10k on Reg T 50% margin).

Short sell 100 shares at $240 and use the cash to cover the call option exercise price.

Reg T margin for shorting effectively requires 50% of the value of the short sale. Half of $24k is a $12k initial margin requirement. You only have $1k of cash. Shorting the shares? Not gonna happen.

OR Purchase a put at a $240 strike price and let both exercise at expiration tomorrow.

What if your stock is above $240 at expiration and your $240 put expires worthless? You still have the problem of an assigned $200 call. And if expiration is between the strikes, your broker may consider this free riding. Call your broker to ascertain their expiration policy.

Brokers handle this situation in different ways. Some brokers will preemptively close such positions before expiration in order to avoid such complications. This isn't good because deep ITM options usually have very wide bid/ask spreads and the broker isn't going to work the order for a better price.

Your best solution? Sell to close your options before the broker's cut off time (usually 3:30 PM) if you're at such a broker and certainly by 4 PM expiration if not, in order to avoid free riding complications.

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  • Thank you, the short-selling answer makes a lot of sense and I see it's not an option! However, I didn't currently find it clear if buying a call at a strike price of $200 and a put at $240 if that would work? – David Hall May 16 at 12:03
  • Apologies for misreading your question. The "call at a strike price of $200 and a put at $240" is problematic (see edited answer). – Bob Baerker May 16 at 12:19

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