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Suppose that I buy a call option at \$10 for a stock $S_0 = \$100$, $K = \$110$, expiry date $T$.

In $T$, $S_T = \$140$, so that I exercise the option to buy and then sell the assets (buy at $\$110$ and sell at $\$140$), thus obtaining a net profit equal to $\$140 - \$110 - \$10 = \$20$.

However, can I just directly take the profit or do I have to buy (at $\$110$) and then sell?

In other words, do I need the $\$110$ to obtain the $\$20$ profit? Or to directly take the profit should I buy a call option on the future of the asset (and thus exercise the call and then sell the future on the asset)?

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  • $\begingroup$ Just deviating from the answer for a moment here , Sorry folks ! , but can a deep OTM option be that costly ? $\endgroup$ – HyperVol Feb 25 '16 at 16:00
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I would just sell the option (assuming there is sufficient liquidity). As @noob2 correctly states there will be transaction costs but there is no way around that.

If both the option and the underlying are not liquid you might have a problem as there may be insufficient demand for either the option or the stock. In such a case it might be good to talk to a bank to see what's possible. Maybe you can buy the stock, create a hedge and borrow money with your position as a collateral to get cash and slowly decrease the long stock position.

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Usually the need to pay 110 in order to receive a stock worth 140 is not an obstacle in this kind of operation. There are some clever ways to get around it, as volcompt said. Or you can just borrow 110 against collateral for a few hours from your broker or from a friend and reimburse them immediately. So I wouldn't worry about it, it is a non issue.

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    $\begingroup$ Why wouldn't you just sell the option? $\endgroup$ – Bob Jansen Feb 25 '16 at 16:49
  • $\begingroup$ Sure, that's another way around the problem (though it creates a small transaction cost): sell it and let someone else exercise it. $\endgroup$ – noob2 Feb 25 '16 at 17:30
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You can start by shorting the stock at \$140, you get paid \$140. Then with that \$140 you pay the strike \$110, you get the share and you have a long position and a short position on a stock (which cancel out).

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    $\begingroup$ You're absolutely right , but shorting a stock for longer durations isn't usually permitted in majority of the exchanges around ! $\endgroup$ – HyperVol Feb 25 '16 at 15:55
  • $\begingroup$ You just need to short it immediately before maturity ... $\endgroup$ – phdstudent Feb 25 '16 at 18:03

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