ABSTRACT
This chapter presents pricing derivative securities by pricing forward contracts, arguably the simplest derivatives form. Pricing derivatives is a major industry both in academia and in industry, because to know how to trade one has to know the value of what one trades. Thinking for the moment of trading as finding undervalued and overvalued securities assumes that we must first have a reasonable idea of the fair value of securities. The value of a forward contract is something created in the trading process as the spot price changes. In the world of stock or bond prices, there is no difference between price and fundamental value. Bonds and stocks are primary financial securities that represent claims to the earnings' streams generated by specific real assets. The forward price is determined so that, at initiation of the forward contract, the current value of a forward contract is zero to all market participants, shorts and longs.
