The exchange will guarantee both side of the contract that is HOLDER AND WRITER. if the...

The exchange will guarantee both side of the contract that is HOLDER AND WRITER. if the WRITER defaults, the buyer will still be able to fulfill the transaction. of course the guarantee to the WRITER is useless...... WHY?

Explain

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Expert Solution

The option lies with the holder or buyer of the option. The option holder or buyer needs the guarantee that if he / she exercises the option, the delivery is made to him. It's the option holder who is at risk whether the option seller will honor the commitment or not, if the holder exercises the option. Hence, the guarantee by the exchange is useful to the buyer or holder of the contract.

A seller or writer of the option contract has already made money by collecting the premium on the options he / she had written. From here, his / her position is:

Either going to remain same, i.e the option contract is not exercised by the buyer or holder. Then there is no obligation or liability on the writer.
Going to worsen, if the option is exercised by the holder. In this case, the writer of the option has obligation to deliver or settle the differential prices.

In such a situation, the party who has the obligation to deliver or pay, needs no guarantee. What kind of guarantee this Writer needs? He doesn't need any guarantee. Guarantee is needed by the person who will be impacted by the action or inaction (default) of the writer. Hence, any guarantee to the writer of the option is useless. It's the buyer of the option who needs guarantee and hence exchange guarantee to the buyer is meaningful.

jeff jeffy answered 1 month ago

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