Execute or trade an options contract?

Question

Take this call for example:

FIO Jan13 22 Call

Let's say this Thursday the stock goes to $23. Here is my math:

Cost of option: $35
Cost of stock bought at $22: 100x$22 = $2,200
Thursday price of stock at $23: 100x$23 = $2,300
Thursday value less costs: $2,300 - $2,200 - $35 = $65

My questions:

Is this math correct?
When executing the contract, do I need to have money in my account to buy the shares, or I can I just have my brokerage buy and sell it immediately? (I am using OptionsXpress, if that matters).
Is there a difference in price between (a) buying the stock and then immediately selling it vs. (b) selling the options contract to someone else? In other words, is the value of the options contract the same as the profit that could be made by executing it ($65)?

JTP - Apologise to Monica · Answer

Your math shows that you bought an 'at the money' option for .35 and when the stock is $1 above the strike, your $35 (options trade as a contract for 100 shares) is now worth $100. You knew this, just spelling it out for future readers.
1 - Yes
2 - An execute/sell may not be necessary, the option will have time value right until expiration, and most often the bid/ask will favor selling the option. You should ask the broker what the margin requirement is for an execute/sell. Keep in mind this usually cannot be done on line, if I recall, when I wanted to execute, it was an expensive manual order.
3 - I think I answered in (2), but in general they are not identical, the bid/ask on options can get crazy. Just look at some thinly traded strikes and you'll see what I mean.

Kirk Ouimet · Answer

Here is the answer for #3 from my brokerage:
Your math is correct. Typically, option traders never take delivery of the stock simply to then turn around and sell it at the higher price that the stock is trading at. You would always expect the option to have a higher value that simply selling the stock at market price. There are many factors involved in options pricing and the math behind it is quite complicated, but unless it is right at expiration, the option will have a higher price than the stock itself.

Bob Baerker · Answer

Yes, your math is right.
If a long option has time premium, it makes more sense to sell the option rather than exercise it because exercise throws away that time premium and because exercise involves more bid/ask slippage and more commissions (if you're still paying them).
If an option is deep in-the-money, the bid may trade below intrinsic value and it may make more sense to exercise the option in order to avoid the haircut.
You must have the appropriate margin in your account to exercise otherwise it's a margin violation.

Execute or trade an options contract?

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