- CFA Exams
- CFA Level I Exam
- Topic 7. Derivatives
- Learning Module 46. Basics of Derivative Pricing and Valuation
- Subject 12. American Option Pricing
CFA Practice Question
Which factor could cause an early exercise of American calls?
A. Cash payments on the underlying
B. Changes in risk-free interest rates
C. Changes in volatility of the underlying
Explanation: Cash payments on the underlying are the only reason to exercise American calls early.
User Contributed Comments 4
| User | Comment |
|---|---|
| schweitzdm | What does cash payments on the underlying mean? |
| birdperson | i think it is referring to dividends (or some kind of cash flow) which would make investors want to exercise early in order to get it |
| syvestro | It's a badly worded question IMHO because any of those factors could potentially cause exercise, because those events all impact the price of the underlying and thus may trigger a call to exercise prior to expiration date. |
| rojaslav | I would agree in certain cases all three options can potentially lead to early exercise a call. However, given you can only choose one, you should always go for the one that is 'less dependant' on other factors. In this case, cash payments does mean dividends being paid by the stock issuer to holders, which will always incentivize investors to purchase that stock and receive that cash. |