Question

Which of the following statements are TRUE with respect to the relationship between option value and volatility/dividends/interest rates/time to maturity? I. when volatility decreases with all else remaining the same, both calls and puts increase in value. II. when dividends increases with all else remaining the same, puts increase in value while calls decrease in value. III. when interest rates decrease with all else remaining the same, calls decrease in value while puts increase in value. IV. when the time to maturity increases with all else remaining the same, both put and call European options always increase in value. Choose from the following:

II, III

I, II, III

I, II

I, III, IV

Answer 1

Statement II and III is true.

I. when volatility decreases with all else remaining the same, both calls and puts increase in value

above statement is wrong

Call and Put option value positive relation with volatility. so I. when volatility decreases with all else remaining the same, both calls and puts Decrease in value.

II. when dividends increases with all else remaining the same, puts increase in value while calls decrease in value.

above statement is right

when dividends increase mean share price decrease so call option value will decrease and put option value will increase.

III. when interest rates decrease with all else remaining the same, calls decrease in value while puts increase in value

above statement is right

interest rate decrease mean decrease in share price so value of call option decrease and value of put option increase .

IV. when the time to maturity increases with all else remaining the same, both put and call European options always increase in value

above statement is wrong.

when the time to maturity increases with all else remaining the same, both put and call European options always decrease in value. except when put option is deep in the money value of put option will increase.