European and American Options: Similarities and Differences - Essay Sample

Introduction

European and American options depict similar characteristics, though with unique and essential differences. For instance, the European call option provides the holder with the right to purchase stock with a predetermined future price and date (Hansen, 2019). However, the options hold is only allowed to exercise the option after the expiration date, as agreed by the counterparties. An American call option provides the holder with the right to demand the stock or security anytime between the time of formation and expiring when the price stake is expected to shoot beyond the strike price. The paper presents a comparison between the European and American call and put options.

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To begin with, the American-style options allow for advance purchase before the plan expires while the European-style cab only is exercised upon expiration.

American Options

All stock options and the exchange-traded funds (ETFs) operate American options, whereas few broad-based indices are associated with the plan (Hansen, 2019). The American option-style ceases its operation on the close of the trading day, usually on the third Friday of the business expiration month. Moreover, some options are quarterlies and trade until the business closing day as provided on the trading calendar. However, some options are weeklies ceasing their operations on every Wednesday of Friday of every week. The underlying prices for the American option are closing price value for the expiration date. The maturity of the option is after the expiration of the formulated time and has got more than one cent as money value attached.

European Options

As stated earlier in the text, the European index stops operations one day before the closure of the business. For instance, it could stop counting on Thursday before the third last Friday of the expiration month. Identifying price settlement for the European index is quite complicated as compared to American options. Moreover, the settlement price index is not published until after the market opens. The maturity of the option is upon the expiration of the formulated plan. The price index for the European option is calculated in two ways (Majaski, 2019): First, on the third Friday of the month, recording the opening price for every stock traded. Second, options calculated as if all every trade was purchased at distinct opening prices, although at the same time. Nonetheless, the second approach is not a real-world measure since you cannot assume the settlement price by looking at the published index only.

Both the American and European calls and options are risk-free rates since the owners of these options have control rights. The option holders are decisive on whether to trade their purchase or not free them from the benefit of the doubt. Moreover, the individuals involved in trade collected annual dividends from the returns made upon the purchase of plans.

The European call options are priced and traded majorly on counters. Since the European options are sold in a minimum amount as compared to American, it will be necessary to rate it with a much lower premium. Both plans have limited risks, but the American option is riskier since they can trade upon formation without waiting needed for expiration. The other limitation is the high premium for American options causing increased values for the competitors in the case of European options (Majaski, 2019). To help improve the European option, there is a need to increase its popularity through advanced services and advertisements through international media platforms, social media, and worldwide events like sports. Also, it is necessary to provide easier and manageable conditions to join and purchase options to increase the number of buyers. Rising trading premiums will be significant to attract more members and increase trading as well, giving a higher competitive advantage.

References

Hansen, W. (2019). Option styles: American vs. European: Learning Markets. Retrieved from https://www.learningmarkets.com/option-styles-american-vs-european/

Majaski, C. (2019). American vs. European options: what's the difference? American Options Trading Guide. Retrieved from https://www.investopedia.com/articles/optioninvestor/08/american-european-options.asp