Explanation:
The correct answer is D.
An increase in the expected cash dividend will increase the price of put options but decrease the price of call stock options.
The reasoning is as follows: When a stock pays a cash dividend, the stock price drops by approximately the amount of the dividend on the ex-dividend date. This decrease in the underlying stock price has a differential effect on calls and puts:
For call options: A lower expected stock price (because part of the value is being distributed as dividends) reduces the value of call options. The holder of a call benefits from stock price appreciation, so any reduction in expected future stock prices decreases the call's value.
For put options: A lower expected stock price (because part of the value is being distributed as dividends) increases the value of put options. The holder of a put benefits from stock price depreciation, so any reduction in expected future stock prices increases the put's value.
Choice A is incorrect because an increase in cash dividends does not increase the price of call options. It decreases their value.
Choice B is incorrect because an increase in cash dividends does not decrease the price of put options. It increases their value.
Choice C is incorrect because the impact on calls and puts is reversed. An increase in cash dividends increases put prices and decreases call prices, not the other way around.
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Q.748 Kelly Jackson is a junior research analyst at an Asian Investment Fund. The fund has a large exposure to US stocks and options. Jackson is given the task of analyzing the impact on the prices of call and put options if the underlying stock pays a cash dividend. Jackson came up with the following scenarios that show the impact of an increase in cash dividends on call and put options. Which of the four scenarios is consistent with the principles of option pricing?
A
An increase in the expected cash dividend will increase the price of put and call stock options.
B
An increase in the expected cash dividend will decrease the price of put and call stock options.
C
An increase in the expected cash dividend will decrease the price of put options but increase the price of call stock options.
D
An increase in the expected cash dividend will increase the price of put options but decrease the price of call stock options.