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Which Factors Influence the Time Value of an Option?

In addition to the ratio exercise price/price of the underlying instrument, which determines the option's intrinsic value, the option price is influenced by a number of factors affecting the option's time value.

Traders and analysts enter all factors - exercise price, price of the underlying instrument, remaining lifetime, short-term interest rate, returns and volatility - into different option pricing models, depending on the underlying instrument and option terms.

d1  =   ln(S/B) + (r x 0,5v2) x t
v x t-1/2
d2  =   v x t-1/2
C  =  Call value
S  =  Current price
N(d1)  =  Value of the cumulative standard deviation around the price, identical to the option‘s delta
B  =  Exercise price
e  =  Euler‘s constant
t  =  Remaining lifetime of the option, in years
N(d2)  =  Value of the cumulative standard deviation around the exercise price, or the probability that the option will end up in-the-money.
ln  =  Natural logarithm
v  =  annualised volatility
r  =  risk-free interest rate

In the formula, S stands for share price and E for exercise price. The difference between them is the intrinsic value. Click on the formula for information on the other input factors.

European-style equity options, for which no dividends are paid during the lifetime, can be calculated using the Black-Scholes Model. It is also suitable for calculating prices of DAX options, for instance. The Eurex OptionMaster uses the Black/Scholes formula. Through entering a dividend and a payment date for the dividend you can also approximately calculate the prices for equity options with dividend payments.

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