3. Which of the following are true? For those that are false, explain why: (a) T

Question

3. Which of the following are true? For those that are false, explain why:
(a) The maximum possible price for an American Call option with a strike of 100 on a
stock with a current spot price of 90 is 95.
(b) An American call option on a stock with no dividends should never be exercised.
(c) An American put option on a stock with a termination date in two years must be
worth at least as much as a comparable American Put with a shorter termination
date.
(d) A European put option on a stock with a termination date in two years must be
worth at least

Explanation / Answer

I only have the answer to part B B)There are three reasons not to exercise a call option. 1. The option is out-of-the-money. In this case you can purchase the underlying stock at the lower market price. It would make no sense to exercise the out-of-the-money call and take ownership at a higher price. 2. There is significant time value remaining in the call option. If you have time value, i.e., extrinsic value, in the call option you are better off not exercising and selling the option to capture the time value premium. Even if the option is in-the-money and you want to own the stock, you will likely be better served by selling the call option and then purchasing the stock at market. 3. You lack the capital to purchase the stock. If you exercise a call option, you will need adequate capital to buy 100 shares of the stock at the option's strike price. However, if you want to own something less than the 100 shares, you might consider contacting your broker to see if you can arrange to immediately sell a portion of the shares at market upon exercise. There are times when you may want to exercise a call option early, however. If the option is in-the-money and the time value is depleted, you may consider exercising your rights under the call option. Once you take ownership of the underlying stock you have the opportunity to roll into a synthetic call option by purchasing a put option, begin selling calls against the stock, or simply hold the stock and allow it to trend higher. As such, I don't think anyone is going to prove that you should "never" exercise prior to maturity. Sources: http://www.theoptionclub.com/call_option.html

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