Should options traders accept pin risk, which creates uncertainties?

Should options traders accept pin risk, which creates uncertainties?

Pin risks are related to options contracts. Should they be exercised or assigned as the underlying security’s price is at or near the option’s strike price? There will be uncertainty, and we call it the “Pin risk.” Let us assume that Stock A will expire at $100. The 100- strike will be pinned. This is a classic example of an action called “pinning a strike.”

What is pinning a strike?

Options traders are subjected to risk once they get involved with pinning a strike. They are unsure whether they will strike their long options that expired at the money or close to that. Why is there hesitation? There are simultaneous uncertainties of the similar short positions of their supposed assignments. Hence, options holders may end up with losses as soon as the market opens the next day. Also, this is based on the quantity exercised long contracts and assigned shorts.

What is a pin risk?

Option sellers experience pin risks when expiration gets closer, and the underlying asset’s price is close to being in the money as soon as it expires. Pin risk has always been a challenging puzzle to unlock. Why? If the underlying expires even at a minimal amount of the out of the money, the profit of the option’s writer is the collected total premium. On the other hand, if the underlying is in the money even at a minimal amount, the seller may have a long assignment who exercises that option.

In this case, the options become along if it’s a call and a short if it’s a put position on the underlying. It’s because the underlying will not trade until the market opens. Hence, the seller is exposed to chances that the underlying will gap against them. This gap may be massive or minimal, but it will make losses. As the market’s closing comes nearer ahead of the expiration, the options seller will not know how to hedge the position getting closer to expiration. Also, almost any hedge chosen will erode their possible profits.

What about pinning?

Pinning refers to institutional option buyers’ chances to manipulate price action in the underlying as the options’ expiration gets closer. Options buying facing a total loss of the options may try to pin the stock to a price in the money. They can do this by using a strategy where they enter buy orders just before the close. If this fails, the attempts might mean a significant risk to the people who try to pin the stock. On the other hand, if this is a success, it might mean that there is a massive risk to options sellers. Pinning the strike usually happens when there is a huge open interest in the calls and puts of the specific strike as the expiration gets closer.

Some highlights for today

Pin risk is an options trader’s risk that the underlying security will close at or near the strike price of the expiring options positions held. The risk is not clear about the number of exercised long options and assigned short options. This uncertainty can make positions that are held unhedged implicitly over the weekend. It comes with the risk of the market movement opposing them and putting all expected gains down the drain. Pinned positions are hard to hedge against.

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