Some Easy-to-Implement Methods of Calculating American Futures Option Prices

Journal of Futures Markets Journal of Futures Markets, Vol. 15, No. 3, pp. 303-344, 1995

42 Pages Posted: 27 Feb 2011

See all articles by Mo Chaudhury

Mo Chaudhury

McGill University - Desautels Faculty of Management

Date Written: 1995

Abstract

While the existing methods of American futures option valuation are more accurate than Black's European formula, they are not as user friendly, especially in estimating ISD. Hence, despite the fact that Black's formula ignores the early exercise possibility, it remains a popular choice for many practitioners and researchers. Using the pure option pricing results, this paper shows the American futures option value as a multiple of Black's European option value. Depending on how the multiple is estimated, four new methods of calculating American futures option prices are offered. Their input requirements are the same as Black's formula and they are as easy to implement as Black's formula both for calculating the option price or to estimate ISD. This is because they do not require the critical futures price(s) as input. Simulation results indicate that the new methods are fairly accurate. Their accuracy is better than Black's formula and is as good as the accuracy of the quadratic approximation method of Barone-Adesi and Whaley. In fact, for most traded American futures options, even the simplest of the four new methods offer an excellent approximation to the true (binomial) option price.

Keywords: American Futures Options, Option Price, Early Exercise, ISD

JEL Classification: G13

Suggested Citation

Chaudhury, Mo, Some Easy-to-Implement Methods of Calculating American Futures Option Prices (1995). Journal of Futures Markets Journal of Futures Markets, Vol. 15, No. 3, pp. 303-344, 1995, Available at SSRN: https://ssrn.com/abstract=627682

Mo Chaudhury (Contact Author)

McGill University - Desautels Faculty of Management ( email )

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(514) 398-5927 (Phone)
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HOME PAGE: http://www.mcgill.ca/desautels/mo-chaudhury

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