LOS j: Compare and contrast American options on forwards and futures to European options on forwards and futures, and identify the appropriate pricing model for European options.

Q1. Early exercise of in-the-money American options on:

A)   both futures and forwards is sometimes worthwhile.

B)   forwards is sometimes worthwhile but never is for options on futures.

C)   futures is sometimes worthwhile but never is for options on forwards.

Q2. Regarding deep in-the-money options on futures, it is:

A)   sometimes worthwhile to exercise calls early but not puts.

B)   never worthwhile to exercise puts or calls early.

C)   sometimes worthwhile to exercise both calls and puts early.

Q3. Regarding deep in-the-money options on forwards, it is:

A)   sometimes worthwhile to exercise calls early but not puts.

B)   never worthwhile to exercise puts or calls early.

C)   sometimes worthwhile to exercise both calls and puts early.

Q4. Which of the following statements is most accurate?

A)   American options on futures are more valuable than comparable European options on futures.

B)   American options on forwards are more valuable than comparable European options on forwards.

C)   European options on futures are more valuable than comparable American options on futures.

LOS j: Compare and contrast American options on forwards and futures to European options on forwards and futures, and identify the appropriate pricing model for European options. fficeffice" />

Q1. Early exercise of in-the-money American options on:

A)   both futures and forwards is sometimes worthwhile.

B)   forwards is sometimes worthwhile but never is for options on futures.

C)   futures is sometimes worthwhile but never is for options on forwards.

Correct answer is C)        

Early exercise of in-the-money American options on futures is sometimes worthwhile because the immediate mark to market upon exercise will generate funds that can earn interest. It is never worthwhile for options on forwards because no funds are generated until the settlement date of the forward contract.

Q2. Regarding deep in-the-money options on futures, it is:

A)   sometimes worthwhile to exercise calls early but not puts.

B)   never worthwhile to exercise puts or calls early.

C)   sometimes worthwhile to exercise both calls and puts early.

Correct answer is C)       

If puts or calls on futures are significantly in-the-money it may be worthwhile to exercise them early to generate the cash from the immediate mark to market of the futures contract when the option is exercised.

Q3. Regarding deep in-the-money options on forwards, it is:

A)   sometimes worthwhile to exercise calls early but not puts.

B)   never worthwhile to exercise puts or calls early.

C)   sometimes worthwhile to exercise both calls and puts early.

Correct answer is B)

Unlike futures, forwards do not generate any cash at exercise even when they are deep in-the-money so there is no advantage to early exercise.

Q4. Which of the following statements is most accurate?

A)   American options on futures are more valuable than comparable European options on futures.

B)   American options on forwards are more valuable than comparable European options on forwards.

C)   European options on futures are more valuable than comparable American options on futures.

Correct answer is A)

Because of the mark-to-market feature of futures contracts, American options on futures are more valuable than comparable European options. The value of American and European options on forwards are the same.

d