For a call option on a stock that pays dividends, which of the following statements is valid?
A) The European call is worth the same as the American call.
B) The European call always decreases in value as dividends increase, but the American call always increases in value as dividends increase.
C) The American call is worth at least as much as the European call.
D) The American call is less likely to be exercised as dividends increase.

Question

Quizplus · Accepted Answer

The American call option is worth at least as much as the European call option on a stock that pays dividends, because the holder of the American call option can exercise it early to receive the dividends, while the holder of the European call option has to wait until the expiration date. Therefore, the early exercise feature of the American call option gives it an advantage over the European call option, which justifies a higher price or at least an equal price for the American call option. Options that pay dividends actually have lower prices than equivalent options on non-dividend paying stocks, due to the negative effect of the dividend yield on the option premium. B and D are incorrect because they make generalizations that do not hold true in all cases. A is incorrect because the exercise style is not the only factor that determines the value of a call option.

For a Call Option on a Stock That Pays Dividends