AAPL: What the Dividend means for option traders

Published on: Jan 20 2013 by John Critchley

 

What does this mean for the option marketplace?

The $2.65 quarterly dividend will decrease call values and increase put values. The longer dated options will be affected the most and any options expiring before the fourth quarter Ex-Dividend will not be affected at all.

Simply stated:  Call values do not like dividends and Put values do.

Cash dividends issued by stocks can have a significant impact on the option prices of the underlying. The reason for this is because the price is expected to decrease by the dividend amount on the ex-dividend date. Meanwhile, options are pricing taking into account the expected dividends payable in the time frame leading up to the option expiration date. Consequently, options of high dividend paying stocks have lower premium calls and higher premium puts.

Option pricing models usually price call options with the assumption that they are only exercised on the expiration date. Due to the fact that the owners of the stock as of the ex-dividend date receive the dividend amount, sellers of  call options in dividend paying stocks are assumed to receive the dividends and consequently the call options can get discounted by as much as the dividend amount.

Put options get more expensive after a new dividend or dividend increase is announced due to the simple fact that stock price always decreases by the dividend amount after the ex-dividend date.

Let’s look at the options marketplace and see how this dividend announcement has affected the option prices in AAPL.

Example:

Case #1   No dividend in AAPL

Underlying at $599.84

If we use a 32.22 Implied Volatility and employ a simple Black Scholes pricing model:

Theoretical values of Jan ‘13 600 calls = $71.31

Theoretical values of Jan ’13 600 puts =$69.03

Case #2    $2.65 dividend in AAPL.  The Ex-Dividend date will be in the last quarter of 2011 and since the fiscal fourth quarter for AAPL begins in July, the marketplace is anticipating two dividends before Jan ’13 expiration.

Underlying at $599.84

If we use a 32.22. IV and employ a simple Black Scholes pricing model

Theoretical values of Jan ’13 600 calls = $68.825

Theoretical values of Jan ’13 600 puts =$71.40

The Jan ’13 600 calls went down approximately $2.485        ($71.31- $68.825 = $2.485)

The Jan ’13 600 puts went up approximately $2.37                ($71.40- $69.03 = $2.37)

There you have it, folks.  The value of AAPL options has been affected by the size of the dividend.  Lucky for all those long term AAPL puts buyers, not so good for the owners of long term calls.

Notes: Prices quoted where the prices at time of submission and do not reflect current market prices.

Disclaimer

We are not liable for any trading decisions made by any reader. NO advice is given or implied. The information offered in this article is for demonstration purposes ONLY and should not to be either construed as an offer or considered to be a recommendation to buy or sell any options.

Your use of this information is entirely at your own risk. It is your sole responsibility to evaluate the accuracy, completeness and usefulness of the information. You must assess the risk of any trade with a professional broker, or financial planner, and make your own independent decisions regarding any trades mentioned herein. This is not a solicitation to buy or sell any options, or to purchase or sell any credit spreads. Trading options only carries a high degree of risk, is not suitable for all traders/investors, and you may lose all of your premium money invested in the options. If you have never traded options before, we strongly recommend that you read a little background information made available by the government. Only you can determine what level of risk is appropriate for you. Also, prior to buying or selling an option, a person must receive a copy of Characteristics and Risks of Standardized Options.

Past performances DO NOT guarantee future results. Please consult with your own independent tax, business and financial advisors with respect to any trade. We will NOT be responsible for the consequences of anyone acting on this purely demonstration material.

 

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One Comment to “AAPL: What the Dividend means for option traders”

  1. Bill Mason says:

    Great information for Options traders that have dividend stocks. I never realized what the change was, but it makes sense. Thanks for the info, and keep up the good work!

    -Bill

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