The Market Price of an Option Is a Function Of

question 44

True/False

The market price of an option is a function of:
A. Market expectations regarding the medium term dividend stream expected on the shares underlying the option. Where the exercise price is expected to be greater than the sum of 2 to 3 years' dividends the option will sell at a discount. Where the exercise price is less than 1 year's expected dividend it will sell at a premium.
B. The difference between the market price of the share and the exercise price on the option. The market price of the option will, however, be greater than this difference where the option does not expire for some time. All other things being equal, the greater the time until the option is to be exercised the greater the difference will be between the price of the option and the difference between the exercise price and the share price.
C. The liquidity of the shares underlying the options. Investors in the market are more interested in options over shares that are subsequently easily traded. A measure of the liquidity of a share is the average volume of shares turned over during a period. The higher this measure, the higher the market price of the option.
D. The market price is closely linked to the exercise price and does not vary significantly from that. The only situation in which this ceases to be true is when significant impacts on the whole market shift the prices of many shares down at once (for example, in the case of a major impact to a whole economy such as was experienced in the September 2001 attack on the World Trade Center in New York).
E. None of the given answers.

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Definitions:

Projective Techniques

Psychological assessment tools that encourage subjects to project their feelings, thoughts, and perceptions onto ambiguous stimuli.

Ambiguous Stimuli

Ambiguous stimuli are materials used in psychological research that can be interpreted in multiple ways, often to study perception, cognition, or personality.

Personality

Refers to the combination of characteristics or qualities that form an individual's distinctive character.

Reliability Estimates

Measures that assess the consistency of a test or measurement tool across different situations and over time.