Monday, March 31, 2008

Utility of a Derivative in the Presence of Secondary Markets and Without Secondary Markets

The utility of any instrument would be different when there are secondary markets. The valuation of such instruments should take this into account!

With regard to option pricing models, I feel the model only shows the utility of the parties for over the counter markets. Options can be sold and bought back in the secondary market.

If this was not the case and the buyer is compelled to hold it to expiration or exercise, then the payoffs can be modeled using a replicating portfolio.

Please be good enough to comment on this.

Best regards, Suminda Sirinath Salpitikorala Dharmasena

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