Options

Question 0

What is Leaps?

Answer 0

Leaps are options on stock indices that last up to 3 years

Question 1

American option

Answer 1

An American call option on a non
dividend paying stock should never be exercised early
An American call on a dividend paying stock should only ever be exercised immediately prior to ex dividend date

Question 2

What is the approach when you use Black Scholes for valuing option with dividends in 2 separate periods ?

Answer 2

Find the average dividend for the period and then convert it to annual rate
This will be plugged into Black Scholes model

Question 3

What are the Black Scholes model assumptions?

Answer 3

7 assumptions underlying the B-S model:

1. Stock price behavior corresponds to the log normal model with constant expected return and volatility (this is a questionable strong assumption)
2. No transaction costs and taxes, all securities are perfectly divisible
3. No dividends during life time of the option
4. No risk-less arbitrage opportunities
5. Security trading is continuous
6. Investors can borrow or lend at risk free rate
7. The short term risk free rate is constant