The selection and management of a vertical spread are only
two-thirds of the game. Closing out, rolling or morphing the
position has to be analyzed and executed with the same due
diligence as was used in the selection and management processes.

Looking at the closing out of a vertical call spread, we find
there are three possible outcomes that must be addressed. The
spread can finish out-of-the-money and valueless. For a call
spread, this scenario occurs when the stock closes at or below
the lower strike of the spread. In this scenario, in order to
close out the spread, one would just let it expire. Both options
finish out of the money so no residual position will be left
over.

If the spread finishes fully in the money, (at maximum value)
that is with both options in-the-money, then both options will
be exercised. You will exercise your long call and your short
call will be assigned. They will cancel each other out and you
will be left with no residual position. This scenario occurs
when the stock price closes lower than the lower strike call
involved in the spread.

The difficult scenario is when the stock closes in between the
two strikes of the spread. This scenario, the closing of the
stock between the two strikes creates a situation where one
strike winds up being in-the-money while the other ends up
out-of-the-money.

When both options expire in-the-money, they are both
exercised-one creating a long stock option, the other creating a
short position thus canceling each other out. This is not the
case here. Here, one option, the one that is in-the-money will
leave a residual stock position and since the other option is
out-of-the-money, it will not be able to be used to offset the
residual stock position created by the expiring in-the-money
option.

There are two actions that could be taken. Choice number one
involves trading out of the spread on expiration Friday just
before the close. Because of the bid/ask spread of the two
options, you will probably have to give away some of your
profits in order to close out the position.
Giving up a portion of the profits may be the best thing to do
in order to avoid naked, unlimited risk.

If you only trade out of the in-the-money option, you run the
risk (albeit short-lived because you are doing this late on
expiration day of the expiring month) that the stock moves
adversely and the out-of-the-money option suddenly becomes
in-the-money. If that happens, you will now be naked the
residual stock position. Of course, if there is still time, you
could always trade out of the option then but that is very
risky. However, if the stock is at a relatively safe distance
from the out-of-the-money you may want to just close out the
in-the-money option and let the out-of-the money option expire
worthless.

The two factors that must be considered are: the combination of
the distance of the strike from the stock price in relation to
the short amount of time for the stock to get there, and the
amount of money saved by not buying back the out-of-the-money
option. Remember, this is being done at the very end of the day
on expiration day. These options only have minutes of life left.
So, knowing this, the risk is somewhat mitigated, but still
there none the less.

The catch is the proximity of the stock to the out-of-the-money
option. If the stock is close to the out-of-the-money option,
you would be best advised to trade out of the spread entirely.

Again, as stated before, if the stock closes either with the
spread fully in-the-money, or fully out-of-the-money, the
position will adjust itself through the exercise process leaving
no residual position. If the stock price finishes between the
two strikes, there will be a residual position. We discussed
above how to trade out of this position. Your second choice is
not to trade out and allow yourself to go through the expiration
process. You must remember that if you are going to accept a
residual stock position, you must be able to afford it.

Then, if you have 10 July 50 calls and you exercise them you
will be receiving 1000 shares of stock at $50.00 per share.
Thus, you must have $50,000.00 of cash and/or margin in your
account to receive the stock. If you do not have enough cash
and/or margin to accept delivery of the stock, then you must
trade out of the position before it expires.