Definition
Exercise is the act by which an option holder invokes the right embedded in the contract. Exercising a call means buying the underlying at the strike price; exercising a put means selling the underlying at the strike price.
When a holder exercises, an offsetting seller is assigned the corresponding obligation. Exercise converts a derivative contract into an actual position in the underlying asset.
Why it matters
How it works
An option holder rarely needs to exercise to profit, because selling the option in the market captures both its intrinsic value and any remaining time value. Exercising early surrenders that time value, so it is generally optimal only in special cases, such as a call just before a dividend or a deeply in-the-money put. The exercise style of the contract sets the timing: American-style options can be exercised any day before expiration, European-style only at expiration. In-the-money options that reach expiration are typically processed through automatic exercise.