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What is the Impact of the Return on the Underlying Instrument?

As is the case with every forward transaction, financing costs (interest rates) and income (dividends, for example) from the underlying instrument must be considered when calculating the option price.

Example: equity options ... If, on the day of a company's Annual General Meeting, the dividend is deducted from the share price, shareholders are entitled to such dividends at the time.

The owner of an option that does not exercise that option in time before a dividend payment, is not eligible to receive that dividend as he is not the owner of the shares.

Share prices are reduced by the amount of the dividend. If the amount of the dividend paid out exceeds expectations, the impact on the price will be even stronger. Thus calls become cheaper, and puts more expensive. Of course such effects do not just suddenly appear on the day of the AGM. They are generally estimated in advance, and included in the valuation.

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