Trading puts in an IRA account

Most IRAs will allow buying puts (assuming you get the appropriate approvals), even if you don’t own the underlying in the account.     This opens up the field for speculative uses of options, in addition to the buttoned-down protective put strategies.

Recently I had deep in the money puts and OTM covered calls on SPY in my IRA account.   As expiration approached I begin to wonder what would happen if I didn’t sell my puts.  If the options were cash settled, like VIX index options, then there would be no question,  the value of the puts at expiration would just be credited to my account. But since SPY options are physically settled you would normally expect an expiring  ITM put to trigger a short sale of the underlying at the equivalent of the strike price.   Except in an IRA account you can’t sell short.

I spoke with someone at the Fidelity active trader helpdesk, and they said that if you didn’t have the appropriate amount of underlying in your account at assignment, then they would indeed create a short position in your IRA account.   The next step (and I got the feeling there was a pretty short fuse on this) would be to contact you and ask/tell you to close out the short position.   If they aren’t able to contact you, then they would cover the short position by buying the underlying in your account.   Between the time of the assignment and the cover, you would be exposed to the market moves of the underlying.    Through this scenario, if you wait a day before covering  I don’t believe a “free riding” violation could occur, but with long ITM calls I think you will be in trouble unless you had enough unused cash already in the account.

In my situation, my long position in the underlying would cancel out the short sale, so I could let the puts expire, gather the last of the premium on the puts  (my short calls were so far out of the money there was no chance they would be exercised), and comfortably reside in cash over the weekend.

Otherwise, if you aren’t going to be long the underlying at assignment, it looks like a good idea to sell those ITM puts before they expire.

For more information about trading within IRA accounts see “Top 15 Questions about Trading in an IRA”