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An American Call Is Worth More Than a European Call: The Value of American Exercise When the Market Is Not Perfectly Liquid.

  • Academic Journal
  • Figlewski, Stephen1 (AUTHOR) sfiglews@stern.nyu.edu
  • Journal of Financial & Quantitative Analysis. May2022, Vol. 57 Issue 3, p1023-1057. 35p.
  • Theory says an American call should never be exercised early, except possibly just before an ex-dividend date. But the best market bid is regularly lower than the intrinsic value for in-the-money short-maturity options. An American option can always be exercised to recover the intrinsic value, whereas selling a European call in the market may return considerably less. The article derives the liquidity value of American exercise in closed form as a function of the bid–ask spread and shows empirically that it is of comparable magnitude to, and often greater than, the theoretical value of American exercise to collect a dividend. [ABSTRACT FROM AUTHOR]
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