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Dear Sir, as well as I understood the value of option comprices intrinsic value and time value. The intrinsic value is difference between asset price and exercise price.
In the technical article related real option valuation there was example with the following initial data:
Asset Value (Pa) = $90m
Exercise price (Pe) = $140m
Exercise date (t) = Four years
Risk free rate (r) = 5%
Volatility (s) = 40%as the result of call option calculation 20.8
So, intrinsic value = 60, and the time value 20.8-60=-39.2
How it could be explained taking that option value is always positive?Thanks
The intrinsic value is the amount you would pay for an option if you could exercise it now.
On your figures, the intrinsic value is zero. Nobody would pay 140 for something worth 90 :-).
(Had the asset value been 140 and the exercise price had been 90, then the intrinsic value would be 140 – 90 = 50. Obviously the value of the option would be completely different and not be 20.8.)
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