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A call option allows a person to buy a stock at some future date for a specified price. By implication, if it is "in the money" you'll be able to buy the stock at a potentially deep discount.

So it seems like the financial stability of the option writer might be relevant, both due to the potential that they'd no longer be in business when the time comes, and to the potential that they might not be able to afford the transaction if they are.

However, reading about options I don't see much discussion of these risks, suggesting that they've been solved or mitigated somehow. Is that true, and if so how? Is it because the stock comes from the market maker which is a relatively stable company which would have shares available? That's just a guess, I don't know if that's how it works.

(One could ask a similar question about put options but I've focused on call options here.)

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In the case of regulated, exchange-traded options, the writer of an options contract is obliged to maintain a margin with their broker, and the broker is obliged to maintain a margin with the clearing house. (Institutional writers of options will deal directly with the clearing house.)

In the event that the writer is unable to make a daily margin call, the broker (or clearing house) may automatically close out (all of) their positions using existing margin held. If there was a shortfall, the broker (or clearing house) would be left to persue the client (writer) to make good on their obligations.

None of this effects the position of the original buyer of the options contract. Effectively, the buyer's counterparty is their broker's clearing house account.

  • Thanks for a good answer. It's interesting to see that as a buyer, my effective counterparty would be my broker's clearing house account and not the clearing house account of the seller. That does seem far simpler though. – Stephen Apr 1 '17 at 15:59
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Exchange traded options are issued in a way that there is no counter party risk. Consider, stocks and options are held in street name. So, for example, if I am short and you are long shares, no matter what happens on my end, your shares are yours.

To be complete, it's possible to enter into a direct deal, where you have a contract for some non-standard option, but that would be very rare for the average investor.

  • I understand that stocks and options are held in street name, but my question boils down to "when I want to exercise my option, who will my counterparty be and why is there no risk that they won't do it"? – Stephen Mar 31 '17 at 21:58
  • The exchange guarantees the contracts they issue. – JoeTaxpayer Mar 31 '17 at 21:59

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