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Hypothetical: let's say it's Jan 17, 2015 and AAPL is at 100. My portfolio contains:

Long 1 Jan 23, 2017 Call Option for AAPL at 60
Short 1 Jan 17, 2015 Call Option for AAPL at 90
20,000 USD cash

How does settlement work? The in-the-money option will be assigned. The portfolio contains no AAPL stock to be called away. Is my 2017 option exercised or am I cashed into AAPL stock at the closing market rate and then it is called away? (My understanding is the latter)

What happens if AAPL closes at 300? Then I owe 210/share on the contract and the only way to square with my broker is to exercise the long call. Will my broker do this automatically? Will they be upset with me or is this routine? Am I guaranteed the 5:30 price in this circumstance?

Does this process vary from broker to broker or is it the same everywhere?

Trying to understand all the risks of leveraging up around exchange mechanics.

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First off, you should phone your broker and ask them just to be 100% certain.

You will be exercised on the short option that was in the money. It is irrelevant that your portfolio does not contain AAPL stock. You will simply be charged the amount it costs to purchase the shares that you owe. I believe your broker would just take this money from your margin/cash account, they would not have let you put the position on if your account could not cover it. I can't see how you having a long dated 2017 call matters. You would still be long this call once assignment of the short call was settled.

  • Nice answer - well written – Kelsey Feb 25 '15 at 20:05
  • It may be well written but it is incorrect. There is no margin required for a long calendar spread because the short call is covered by the long call. The only requirement full payment of the initial debit. Having a long dated 2017 call DOES matter. In fact it is critical to the position if one doesn't have the margin available to cover an assignment. If the short call is assigned and there are insufficient funds, the broker will exercise to long call to cover the shortfall. Whether this involves any subsequent restriction depends on the broker. Call to ascertain that. – Bob Baerker Sep 12 '18 at 20:43
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I'm not exactly SURE WHAT your position is because something is wrong with the details provided. My guess is that the strike prices are $60 and $90 and that this is a diagonal spread rather than what you are calling a calendar spread (aka horizontal spread) which is a long and short option position on the same underlying with the same strike price but with different expirations.

If that is correct then if AAPL rises and you are assigned on your short $90 call, $9,000 will be credited to your account and you will be short 100 shares at $90. It matters not what the current price of the stock is (the 5:30 price?) because the contractual obligation is to sell at $90. You will still be long the Jan 23, 2017 $60 call and the risk graph of this position is the same as that of the original diagonal spread since they are synthetic equivalents.

If this is standard Reg T 50% margin (brokers may require more than 50%) then initially you will need $4,500 of marginable securities and/or cash to support the position. Without getting too deep into the weeds, there is a minimum margin maintenance requirement and it will increase as the price of AAPL increases. However, since you own the $60 call, it will be increasing at the same rate and it will offset (standard options are not marginable but LEAPs are).

If you do not have the margin to support opening the short position then your broker will sell something of value to raise the cash to buy enough shares to cover and close the short position. One would hope and expect that your broker would close the long call but I have read enough horror stories on the web to know that you don't leave anything up to your broker.

Will your broker be upset with you? Possibly. Some brokers do not like having to intervene in client accounts. Whether this involves any subsequent restriction depends on the broker. The best thing to do is to contact your broker and find out how they handle such situations.

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