Odd Settlement of S&P 500 Options

Stocks are holding their ground nicely, especially after the recent two-day blast off. But I don't trust it and am not going to make any near-term predictions. I'll give a nod to options by noting that the volatility index, the VIX, has dropped some 15% in the past three days and is now back below the 25 level.

As for the impact that options expiration is having on the market, I believe it is most notable in the S&P 500 index options, or SPX options. Remember, they ceased trading on Thursday afternoon, but their settlement is based on Friday's open -- actually its not even the opening price but the "special secret sauce" known as the SET.

This was probably one of the reasons that early premarket trading had the S&P 500 futures some 10 points right at 1250 and nearly 100 on the Dow. That would prompt people to short the 1250 puts, covering themselves after the Google (GOOG - commentary - Cramer's Take) and Microsoft (MSFT - commentary - Cramer's Take) earnings disappointments.

Then came the Citigroup (C - commentary - Cramer's Take) earnings early in premarket trading this morning. That was before the C earning's report. This morning's SET was 1264.17. That is not only above the S&P official opening of 1258.22, it also surpasses what is so far the daily high of 1262.23.

These options are cash-settled, so their influence is now out of the way. But I want to point out that that very product has its quirks, and it's important to be aware of the contract specifications, especially as they reach expiration.

Just a reminder: Other index products such as the S&P 100 (OEX) or the SPDR Trust Series 1 (SPY - commentary - Cramer's Take) have a typical cessation of trading on Friday's close but don't expire until Saturday morning, giving you an extra night to decide whether to exercise or prepare for assignment, on your position.

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Steven Smith writes regularly for TheStreet.com. In keeping with TSC's editorial policy, he doesn't own or short individual stocks. He also doesn't invest in hedge funds or other private investment partnerships. He was a seatholding member of the Chicago Board of Trade (CBOT) and the Chicago Board Options Exchange (CBOE) from May 1989 to August 1995. During that six-year period, he traded multiple markets for his own personal account and acted as an executing broker for third-party accounts. He appreciates your feedback; click here to send him an email.

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