Early Exercise Decision in American Options with Dividends, Stochastic Volatility and Jumps

74 Pages Posted: 9 Dec 2016 Last revised: 16 Mar 2018

See all articles by Antonio Cosma

Antonio Cosma

Université du Luxembourg

Stefano Galluccio

BNP Paribas Fixed Income

Paola Pederzoli

University of Houston - C.T. Bauer College of Business

O. Scaillet

University of Geneva GSEM and GFRI; Swiss Finance Institute; University of Geneva - Research Center for Statistics

Date Written: December 9, 2016

Abstract

Using a fast numerical technique, we investigate a large database of investor suboptimal nonexercise of short maturity American call options on dividend-paying stocks listed on the Dow Jones. The correct modelling of the discrete dividend is essential for a correct calculation of the early exercise boundary as confirmed by theoretical insights. Pricing with stochastic volatility and jumps instead of the Black-Scholes-Merton benchmark cuts by a quarter the amount lost by investors through suboptimal exercise. The remaining three quarters are largely unexplained by transaction fees and may be interpreted as an opportunity cost for the investors to monitor optimal exercise.

Suggested Citation

Cosma, Antonio and Galluccio, Stefano and Pederzoli, Paola and Scaillet, Olivier, Early Exercise Decision in American Options with Dividends, Stochastic Volatility and Jumps (December 9, 2016). Swiss Finance Institute Research Paper No. 16-73. Available at SSRN: https://ssrn.com/abstract=2883202 or http://dx.doi.org/10.2139/ssrn.2883202

Antonio Cosma

Université du Luxembourg ( email )

162a, avenue de la Faïencerie
Luxembourg, L-1511
Luxembourg
+352 46 66 44 6763 (Phone)
+352 46 66 44 6835 (Fax)

Stefano Galluccio

BNP Paribas Fixed Income ( email )

10, Harewood Avenue
NW1 6AA London
United Kingdom

Paola Pederzoli

University of Houston - C.T. Bauer College of Business ( email )

Houston, TX 77204-6021
United States

Olivier Scaillet (Contact Author)

University of Geneva GSEM and GFRI ( email )

40 Boulevard du Pont d'Arve
Geneva 4, 1211
Switzerland
+ 41 22 379 88 16 (Phone)
+41 22 389 81 04 (Fax)

HOME PAGE: http://www.scaillet.ch

Swiss Finance Institute

c/o University of Geneva
40, Bd du Pont-d'Arve
CH-1211 Geneva 4
Switzerland

University of Geneva - Research Center for Statistics

Geneva
Switzerland

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