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Suppose I hold a call option with strike price of $50. Suppose the company decides to issue an extraordinary dividend of $20 per share. What's going to happen to the option I own?

I'm guessing that one of these scenarios will happen:

(a) The derivatives exchange will reduce the option strike price by $20 (i.e. the strike price now becomes $30).

(b) The derivatives exchange will not change the option strike price. Instead the derivatives exchange decrees that when I exercise the option (remember, strike price: $50), I will receive the dividend amount ($20).

What is going to actually happen to the options when a large extraordinary dividend is declared?

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From the OCC:

Under the changes to the OCC By-Laws which became effective in February 2009, a cash dividend or distribution will be considered ordinary (regardless of size) if it is declared pursuant to a policy or practice of paying such dividends on a quarterly or other regular basis. Dividends paid outside such practice will be considered non-ordinary. OCC will normally adjust for nonordinary dividends unless the amount is less than $12.50 per contract.

The determination of whether a given cash dividend is “ordinary” according to this definition will be made by adjustment panels of the OCC Securities Committee. (These adjustment panels are convened for the purpose of determining the appropriate contract adjustment under the OCC By-Laws in response to corporate events. They are composed of two representatives of each exchange that trades the affected option and a representative of OCC who votes only in the event of a tie. The adjustment panels consider each corporate event on a case by case basis.)

If it's a special stock dividend then the number of contracts remains the same and the strike price is reduced strike price. The contract will now represent the original share value plus the stock dividend.

The OCC will post a bulletin at the time of the special dividend and it will spell out the contract's adjustments

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  • I'm assuming that this is specific to the US. What about other countries? – Flux Apr 8 at 2:46
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    Yes, this is specific to the US. You would have to check with the regulatory authorities in the locale where the options that you are trading originate from. – Bob Baerker Apr 8 at 3:09

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