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Derivatives are financial instruments whose value is derived from the value of underlying assets. These are contracts between two parties. The underlying assets from which the value of the derivative is derived includes assets including commodities that are tangible including agricultural produce. The other assets include currencies and gold and other precious metals. The assets considered for valuation of derivatives can also be intangible. Intangible assets include inflation index and equity price index.
It follows logically that the value of derivatives depends on the value of the underlying asset. Another important aspect is that, in trading derivatives the trading of the underlying assets are not involved. Transactions are settled by taking the value of derivatives traded themselves. Effectively, there is no particular limit on the quantity that can be traded with the underlying assets.
There are many varieties of derivatives available in the market nowadays. The noteworthy ones to mention are futures, options, swaps, warrants, captions, swaptions and so on.
FUTURES: These are standardized contracts between sellers or 'shorts' or 'writers' and buyers or 'longs'. Future contracts require that the sellers deliver and buyers receive the stipulated assets in specified quantities at contracted prices in the future. The period of the contract could be between 3 months and 21 months. Stock index futures are traded on share price indices. Interest rate futures are traded on the basis of interest rates or price indices of treasury bills, industrial debentures, commercial paper, certificates of deposit and mortgage loans. Currency futures are written on the basis of currency rates.
The only paper that is exchanged is the note of contract. Futures based on equity index and currency is usually settled in cash.
Futures are organized by the futures exchanges which have their own clearing system. The buyers and sellers do not have to worry about each other's creditworthiness because the futures exchanges guarantee the performance of the parties in the contract.
OPTIONS: Options are contracts between sellers or writers and buyers. Under this contract, the buyers are enabled to buy stated quantities of assets at some future date at today' contracted price which is also known as the strike price or exercise price. The sellers are obligated by this contract to deliver these assets. The buyers pay a onetime non-refundable premium to the sellers for the right that they enjoy under this contract.
The situation under which the buyer's have the right to the delivery of the underlying asset is known as 'call options'. When buyers have the right to receive payment by handing over assets is known as a 'put' option.
In an option transaction, the potential loss of the seller is unlimited. The potential loss of the buyer is limited to the extent of premium paid.
Options of recent origin include stock index options and interest rate options on treasury notes and bonds and option on foreign currency exchange. The latest innovation in derivatives is the futures option. This is a combination of futures and options.
Options on swaps are known as 'swaptions'. Under this contract, the holders of swaptions have a right, but not an obligation to enter into swap contracts on or before the exercise date. It is interest amount that are counted in swaptions. A premium is paid by the buyer for obtaining a swaption.
Derivatives are financial instruments whose value is derived from the value of underlying assets. These are contracts between two parties. The underlying assets from which the value of the derivative is derived includes assets including commodities that are tangible including agricultural produce. The other assets include currencies and gold and other precious metals. The assets considered for valuation of derivatives can also be intangible. Intangible assets include inflation index and equity price index.
It follows logically that the value of derivatives depends on the value of the underlying asset. Another important aspect is that, in trading derivatives the trading of the underlying assets are not involved. Transactions are settled by taking the value of derivatives traded themselves. Effectively, there is no particular limit on the quantity that can be traded with the underlying assets.
There are many varieties of derivatives available in the market nowadays. The noteworthy ones to mention are futures, options, swaps, warrants, captions, swaptions and so on.
FUTURES: These are standardized contracts between sellers or 'shorts' or 'writers' and buyers or 'longs'. Future contracts require that the sellers deliver and buyers receive the stipulated assets in specified quantities at contracted prices in the future. The period of the contract could be between 3 months and 21 months. Stock index futures are traded on share price indices. Interest rate futures are traded on the basis of interest rates or price indices of treasury bills, industrial debentures, commercial paper, certificates of deposit and mortgage loans. Currency futures are written on the basis of currency rates.
The only paper that is exchanged is the note of contract. Futures based on equity index and currency is usually settled in cash.
Futures are organized by the futures exchanges which have their own clearing system. The buyers and sellers do not have to worry about each other's creditworthiness because the futures exchanges guarantee the performance of the parties in the contract.
OPTIONS: Options are contracts between sellers or writers and buyers. Under this contract, the buyers are enabled to buy stated quantities of assets at some future date at today' contracted price which is also known as the strike price or exercise price. The sellers are obligated by this contract to deliver these assets. The buyers pay a onetime non-refundable premium to the sellers for the right that they enjoy under this contract.
The situation under which the buyer's have the right to the delivery of the underlying asset is known as 'call options'. When buyers have the right to receive payment by handing over assets is known as a 'put' option.
In an option transaction, the potential loss of the seller is unlimited. The potential loss of the buyer is limited to the extent of premium paid.
Options of recent origin include stock index options and interest rate options on treasury notes and bonds and option on foreign currency exchange. The latest innovation in derivatives is the futures option. This is a combination of futures and options.
Options on swaps are known as 'swaptions'. Under this contract, the holders of swaptions have a right, but not an obligation to enter into swap contracts on or before the exercise date. It is interest amount that are counted in swaptions. A premium is paid by the buyer for obtaining a swaption.
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