When to exercise American calls and puts early
Question
On a stock that pays no dividends, can it ever be optimal to exercise an American call before expiry? What about an American put?
Short answer
Never for the call; sometimes for the put. The call is worth at least , so selling beats exercising, and exercise also gives up the insurance value. A deep in-the-money put can be worth exercising because receiving now earns interest, which can outweigh the small remaining optionality when is close to zero.
Adapted from Joshi, Denson & Downes, Quant Job Interview Questions and Answers, Q2.9, p.17; question and answer rewritten by SelfMadeQuant.com.
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- American Options and Early Exercise
- Optimisation Problems
- Constrained Optimisation and Lagrange Multipliers
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