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The Derivatives Market is meant as the

market where exchange of derivatives
takes place.
 mhat are derivatives?
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‡ Derivative is a product whose value is
derived from the value of the underlying
asset.
‡ financial instrument that is !
 ! from some other
asset, index, event, value or condition (known as the
underlying).
‡ Rather than trade or exchange the underlying itself,
derivative traders enter into an agreement to exchange
cash or assets over time based on the underlying. A
simple example is a futures contract: an agreement to
exchange the underlying asset at a future date.
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‡ These underlying assets are most
commonly stocks, bonds, currencies,
interest rates, commodities and market
indices.
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‡ The Derivative Market can be classified as
Exchange Traded Derivatives Market and Over
the Counter Derivative Market.
‡ Exchange Traded Derivatives are those
derivatives which are traded through specialized
derivative exchanges whereas
‡ Over the Counter Derivatives are those which
are privately traded between two parties and
involves no exchange or intermediary
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 ses of Derivatives
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‡ Done by parties who seek to offset their existing risks by
entering into a derivatives transaction.
‡ Existing risks could be an investment portfolio, price
changes in oil for a petroleum mining company or
perhaps investments in a foreign country
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‡ Speculation is more commonly used by hedge funds or
traders who aim to generate profits with only a marginal
investment
 
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‡ Arbitragers work at making profits by taking
advantage of discrepancy between prices of the
same product across different markets.
‡ Practitioners working within risk finance or
quantitative finance often develop models to price
various assets being traded across the markets
‡ pon finding price discrepancies, one can make
use of a specific combination of derivatives in
order to make a risk less profit.
 Types of Derivatives
‡ &

 -A forward contract is a customized
contract between two entities, where
settlement takes place on a specific date in the
future at today·s pre-agreed price
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-A future contract is an agreement
between two parties to buy or sell an asset at a
certain time in the future at a certain price.
Futures are special types of forward contracts in
the sense that futures are standardized
exchange-traded contracts.
 Types of Derivatives
‡  - Options are of two types:
² Calls & Puts
Calls give the buyer the right but not the
obligation to buy a given quantity of the
underlying asset, at a given price on or before
a given future date.
Puts give the buyer the right but not the
obligation to sell a given quantity of the
underlying asset, at a given price on or before
a given future date.
 Types of Derivatives
marrants. Longer -dated options are called warrants and
are generally traded over-the-counter (OTC)
‡ LEAPS Long-Term Equity Anticipation Securities.
These
are options having a maturity of up to three years.
‡ Baskets Basket options are options on
portfolios of underlying assets. The underlying
asset is usually a moving average of a basket of
assets. Equity index options are a form of basket
options.
 Types of Derivatives
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 Economic functions of Derivative
market
Derivatives help in discovery of future as well as
current prices.
‡ The derivatives market helps to transfer risks
from those who have them but may not like
them in comparison to those who have an
appetite for them.
‡ Speculative trades shift to a more controlled
environment of derivatives market.
‡ Act as a catalyst for new entrepreneurial
activity.
Derivative Market and Financial Risk

‡ Derivatives play a vital role in risk management

of both financial and non-
non-financial institutions.

‡ But, in the present world, it has become a rising

concern that derivative market operations may
destabilize the efficiency of financial markets.
Derivative Market and Financial Risk
‡  . .

      
 
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Derivative Market and Financial Risk
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 rowth Driving Factors
‡ Increased volatility in asset prices in Financial Markets
‡ Increased integration between International Markets
‡ Exponential improvement in communication at
exceptionally reduced costs
‡ Development of more sophisticated Risk Management
tools, providing economic agents a wider choice of Risk
Management strategies
 rowth Driving Factors
‡ Innovations in the derivatives markets, which
optimally combine the risks and returns over a
large number of financial assets leading to higher
returns, reduced risk as well as transactions cost
as compared to individual financial assets.