Aswath damodaran 7 determinants of option value n

This preview shows page 7 - 9 out of 17 pages.

Aswath Damodaran 7 Determinants of option value n Variables Relating to Underlying Asset Value of Underlying Asset ; as this value increases, the right to buy at a fixed price (calls) will become more valuable and the right to sell at a fixed price (puts) will become less valuable. Variance in that value ; as the variance increases, both calls and puts will become more valuable because all options have limited downside and depend upon price volatility for upside. Expected dividends on the asset , which are likely to reduce the price appreciation component of the asset, reducing the value of calls and increasing the value of puts. n Variables Relating to Option Strike Price of Options ; the right to buy (sell) at a fixed price becomes more (less) valuable at a lower price. Life of the Option ; both calls and puts benefit from a longer life. n Level of Interest Rates; as rates increase, the right to buy (sell) at a fixed price in the future becomes more (less) valuable.
Image of page 7

Subscribe to view the full document.

Aswath Damodaran 8 American versus European options: Variables relating to early exercise n An American option can be exercised at any time prior to its expiration, while a European option can be exercised only at expiration. The possibility of early exercise makes American options more valuable than otherwise similar European options. However, in most cases, the time premium associated with the remaining life of an option makes early exercise sub-optimal . n While early exercise is generally not optimal, there are two exceptions: One is where the underlying asset pays large dividends , thus reducing the value of the asset, and of call options on it. In these cases, call options may be exercised just before an ex-dividend date, if the time premium on the options is less than the expected decline in asset value.
Image of page 8
Image of page 9
You've reached the end of this preview.
  • One '11
  • hyip
  • Options, Strike price, Aswath Damodaran

{[ snackBarMessage ]}

What students are saying

  • Left Quote Icon

    As a current student on this bumpy collegiate pathway, I stumbled upon Course Hero, where I can find study resources for nearly all my courses, get online help from tutors 24/7, and even share my old projects, papers, and lecture notes with other students.

    Student Picture

    Kiran Temple University Fox School of Business ‘17, Course Hero Intern

  • Left Quote Icon

    I cannot even describe how much Course Hero helped me this summer. It’s truly become something I can always rely on and help me. In the end, I was not only able to survive summer classes, but I was able to thrive thanks to Course Hero.

    Student Picture

    Dana University of Pennsylvania ‘17, Course Hero Intern

  • Left Quote Icon

    The ability to access any university’s resources through Course Hero proved invaluable in my case. I was behind on Tulane coursework and actually used UCLA’s materials to help me move forward and get everything together on time.

    Student Picture

    Jill Tulane University ‘16, Course Hero Intern