If an option price is $475 and its time value is $375, the option's intrinsic value is ____________?
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Answer: B. 100
Explanation
Intrinsic value is calculated as option price minus time value ($475 - $375 = $100). Subtracting the time value premium from the total option price leaves the remaining intrinsic value. This calculation breaks down option pricing components into their fundamental monetary value parts. Total option price consists of intrinsic value plus time value premium components combined. Time value reflects the probability that an option will become more profitable before its expiration date. As options approach their expiration dates, their time value decays rapidly toward zero dollars.
Options traders analyze time value decay to avoid holding wasting assets into option expiration weeks. Understanding intrinsic versus time value helps investors avoid overpaying for speculative derivative contracts. Portfolio managers evaluate these pricing components when executing delta-neutral options hedging strategies. Option A repeats the time value figure incorrectly instead of performing the required subtraction. Option C represents the total option price rather than the isolated intrinsic value component. Option D results from adding the numbers together incorrectly instead of finding their difference.
- Subject
- Accounting and Finance
- Category
- Finance
- Topic
- —
- Difficulty
- medium
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