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# Presentation1 - should never be exercised early. 3 Reasons...

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Arbitrage Opportunities Suppose that c = 3 S 0 = 31 T = 0.25 r = 10% K =30 D = 0 What are the arbitrage possibilities when p = 3 ? 3 =? 3+31- 30e-.1(.25)=4.74 1

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Violation of put-call parity 2 Today ST < K ST > K Buy call -3 - ST - 30 Sell put +3 ST - 30 - Sell stock +31 -ST -ST Lend (buy bond) - 30e-.1(.25) +30 +30 Total 1.74 0 0
Early Exercise Usually there is some chance that an American option will be exercised early. An exception is an American call on a non-dividend paying stock which

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Unformatted text preview: should never be exercised early. 3 Reasons For Not Exercising a Call Early (No Dividends) No income is sacrificed. You delay paying the strike price. Notice that: C S - Xe-rT > S - X = value if exercise early 4 Extensions of Put-Call Parity European options; D > c + D + Ke -rT = p + S Equation 10.10 p. 244 American options; D > S 0 - D- K < C- P < S 0 - Ke -rT Equation 10.11 p. 244 5...
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## This note was uploaded on 01/19/2012 for the course FIN 4520 taught by Professor Lucyackert during the Spring '12 term at Kennesaw.

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Presentation1 - should never be exercised early. 3 Reasons...

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