Question

What is the difference between American and European options? Is one more valuable than the other? Should it be?

Answer 1

Basis of Comparison – European vs American Option	European Option	American Option
Meaning	European Option gives the option holder the right to exercise the option only at the pre-agreed future date and price.	American Option gives the option holder the right to exercise the option at any date before the expiration date at the pre-agreed price.
Premium	Since the option holder of a European Option has the right to exercise the option only at the expiration date; the premium is low.	The liberty to exercise the option at any date prior to the expiration date makes the American option in more demand which makes it pricey.
Popularity	European options are less popular and hence are traded less.	American options are in high demand since it gives the authority to exercise at any time and hence the majority of the options market are American options.
Hedging	Formulating a hedging strategy is easier since the option holder can exercise the contract only at a pre-determined date	Formulating a hedging strategy becomes difficult since the option holder decides the fate of the contract.
Trading	European options are traded majorly over the counter	American options are traded majorly over an exchange.
Risk	European Options have a lower risk since the expiration date is fixed and the loss or profit can be estimated.	American options have a higher risk since the option holder of an American option has the right to exercise the option at any time he or she finds it profitable.

• An American option is pricey and the premium is higher than a European option since gives the option holder the right to exercise the contract at any time after entering the contract and before the expiration date.
• American options are most sought after by traders since it gives the trader the right to exit the position at the time which is highly profitable for him/her.
• American puts, however, should be equals to, or more valuable than, European puts. The reason for this is the time value of money. In a put, you get the option to sell a stock at a given strike price.