@article {Zimmermann61, author = {Paul Zimmermann}, title = {The Fallacy of Fully Dividend-Protected Stock Options and Convertible Bonds}, volume = {23}, number = {3}, pages = {61--72}, year = {2016}, doi = {10.3905/jod.2016.23.3.061}, publisher = {Institutional Investor Journals Umbrella}, abstract = {Altering the terms of a call option to fully protect its value when the underlying stock goes ex-dividend turns out to be trickier than one might think, and the same problem applies to protecting a convertible bond when a stock dividend is paid. Simply lowering the strike price by the same proportion that the stock price falls reduces (S {\textendash} X) by the same percentage, so to maintain the option{\textquoteright}s intrinsic value in dollars, the number of options must also be increased. This re-striking method equalizes the option{\textquoteright}s exercise value before and after the dividend, but the volatility of the underlying still changes. Zimmermann proposes a new correction method that preserves option value when dividends are paid. The difference between valuation under the new method and under the re-striking method is not insignificant, amounting to several points of implied volatility for a holding period of three to five years.TOPICS: Options, quantitative methods}, issn = {1074-1240}, URL = {https://jod.pm-research.com/content/23/3/61}, eprint = {https://jod.pm-research.com/content/23/3/61.full.pdf}, journal = {The Journal of Derivatives} }