What Is a Dow Fair Value?

The "Dow" refers to the Dow Jones Industrial Average. According to the website Dow Jones Averages, the Dow index began in 1896 and has become one of the most widely followed stock market indexes. According to Investopedia, fair value refers to the actual value of each component calculated by the index, whereas pre-market trading of option contracts will give indications of the market's direction.

Function

• Traders and investors have the ability to purchase "call" or "put" option contracts before the stock market opens. When a trader buys a call contract, he believes the market will go up; the opposite happens when put contracts are purchased. The function of fair value emerges as pre-market option trading deviates from the closing prices of the index components.

Features

• When the market trades above fair value or below fair value, this feature allows an investor to become aware of the tone of the market before trading begins for the day.

Benefits

• The benefit to pre-market trading allows investors and traders to take advantage of news that has emerged during the closed hours of the market.

Warning

• As a warning, sometimes the pre-market indications become somewhat misleading. The indication may present a positive start for the market, but the market may actually trade lower.

Considerations

• Investors should consider that portfolio managers with billions of dollars in their portfolio will rarely trade in the pre-market action as the low trade volumes make trading large blocks difficult.