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A 9 month American option (underlying) is known to pay dividend of USD 1 and USD 0.75 at the end of the 3rd and the 07th month respectively. The strike price considered is USD 45. The Risk Free Rate is continuously compounded and is fixed at 6% over the tenure. The stock is currently trading at 42. The put options are trading at USD 7.5 and the call options at USD 4.0. What would be the optimum time to exercise the call and put option based on the information given above?

The answers for the above questions are :-

a) The American call option should be bought and exercised at the second dividend.

b) The American Put option should be bought, but should not be exercised before the first dividend payoff.

How to arrive at this solution?

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    $\begingroup$ What have you tried so far? $\endgroup$ May 4 at 19:25
  • $\begingroup$ Couldn't get a head start with respect to which direction to proceed. Could you please share some lead in order to attain the solution? $\endgroup$
    – Sri nath
    May 5 at 16:42

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