option markets

Question 1

is it optimal to exercise an american option b4 expiry

Answer 1

yes only if it pays an income/divedend in its life

Question 2

what is the intrinsic value of an option

Answer 2

the value of the option should it be exercised immediatley

Question 3

what is the upper bound on an American put price

Answer 3

can never be above the strike price

Question 4

what is the upper bound on an european put price

Answer 4

the present value of strike price x e ^-rt must be greater than or equal to the put price

Question 5

assumptions of european option?

Answer 5

no transaction costs
subject to same tax rate
no arbitrage
borrowing and lending possible

Question 6

what are lower bounds of european and American calls?

Answer 6

c> max so-ke^-rt
C = so-k

Question 7

what is put call parity

Answer 7

european call and put written on the same underlying asset with some k and T

Ke^-rt +c = So + p

Question 8

when may there be arbitrage?

Answer 8

if Ke^-rt +c < So + p

then buy a call and short the put

invest funds at r for t

by end S1> or < So which either callor put will be exercised

Question 9

Divedends impact call and option prices how

Answer 9

decreases value of a call option as

c> max(So - D - Ke^-rt)

increase value of put as

p > max(So + D - Ke^-rt)