According to the textbook, if you buy a put at K and the company has gone busted, you will get K. Nice and simple. But what is the actual market convention when the share stopped trading before expiration (e.g. holding a Lehman put expired on 20Sep08 when Lehman filed on 15Sep). What would be the settlement price, the last trade on Friday before the Lehman was gone during the weekend, the first trade when it resumed traded OTC as pink sheets, or zero? How about the timing?Now let's look into another practical problem. What if the trading of the shares got suspended e.g. SEC investigation and the option expires when during the time? Quite likely we can see a dive in share price when trading resumes. It is not clear to me which price is going to be issue. Any idea?

If trading is suspended and your put expiresyou can still exercise it. Normally there won't be automatic exercise and you will need to submitinstructions (at least my broker does it this way).Where the stock opens when trading is resumed isanyone's guess. I guess it depends on what happensin between. I've been holding 2.50 puts (fortunately long dated) in a company that resumed trading on pinksheets after three months suspension. Stock traded at 6.50before it got suspended, on the first day of trading itmoved in the range $1-$3.50 and on the second daysettled at around 2.50. My guess it will trade for penniesin a while but who knows?

I thought Lehman was still trading post Chapter 11? Seem to remember it was trading based on what assets were left int he company. You can still buy shares in Lehman for that reason, but the ticker has changed.

Your option contract gives you the right to sell the underlying shares at the strike price to whoever sold the option - the exchange if exchange traded, or the investment bank if OTC. Your contractual relationship via the option is with the option Grantor, so you should not really bother if the company on which the Put is written is bust, suspended or just plain history. That is the option grantors problem.

QuoteOriginally posted by: VegawizardYour option contract gives you the right to sell the underlying shares at the strike price to whoever sold the option - the exchange if exchange traded, or the investment bank if OTC. Your contractual relationship via the option is with the option Grantor, so you should not really bother if the company on which the Put is written is bust, suspended or just plain history. That is the option grantors problem.I think this discussion would probably be focusing on the put side. Yes, I do have the right to sell the suspended or defaulted company's stock at the strike price. But practically is it easy to do? Any retail option buyers have gone through this themselves? For institutions, anything is possible (at least to the connected)....

It would be more reasonable to establish some restriction rules for derivatives. For example for each put its issuer uses company bonds as collateral while the bond could default.