A European Option on a Stock with a Known Dollar

question 4

Multiple Choice

A European option on a stock with a known dollar dividend is valued by setting the stock price variable equal to the stock price minus the present value of the dividend in the Black-Scholes-Merton formula.A second price can be obtained using the tree building procedure in the chapter.Which of the following is true when a very large number of time steps are used in the tree?

• A) The first price is higher than the second price
• B) The first price is lower than the second price
• C) The first price is sometimes higher and sometimes lower than the second price
• D) The two prices are almost exactly the same

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Definitions:

Market Price

The present-day price for trading an asset or service in the market.

Underwriters

Professionals who evaluate and assume the risk of another party's financial products, particularly in the fields of insurance and investing, by pricing and placing new securities in the market.

Stock Issue

The process by which a company distributes new shares to investors, either through public offering or private placement.

Legal Fees

Costs charged by lawyers for their services.