Underlying Market
The underlying market refers to the primary, or cash, market where the actual assets that underlie a derivative contract are traded. This market consists of all the assets that are related to the derivative contract in question.
Understanding Underlying Market
For example, in the case of stock options, the underlying market would be the stock market, where shares of the underlying stock are bought and sold. Similarly, for commodity futures, the underlying market would be the market where the physical commodity is traded.
Importance of the Underlying Market
The underlying market is crucial for the valuation and trading of derivative contracts. The prices of derivatives are derived from the prices of the underlying assets in the underlying market. Traders must closely monitor the underlying market to make informed decisions about their derivative trades.
Conclusion
Overall, the underlying market plays a critical role in the world of trading and investing. It serves as the foundation for derivative products, providing the basis for their pricing and trading activity.