Unit 18 : DERIVATIVES

Definition

- Derivatives are finnancial instrucments whose prices are dependent upon, or derived from, underlying
assets such as stocks, bonds, commodities, currencies, interest rates and market indices

There are 3 main types of derivatives: future, options and swaps.

- Future – Standardized forms of forwards that trade on exchanges

- Options – Give the holder the right to buy or sell the underlying asset on a fixed date inthe
future
- Swaps – Contracts through which two parties exchange streams of cash flows

Benefits and dangers of using derivatives:

+ Benefits:

- Against the risky trades: you can eliminate an exposure which threatens your economic activity,
or you can add risk for speculation or investment purposes.
- There is no uptick rule for derivatives: If there is a bid, you can always sell at that price without
having to wait._Listed derivatives are easy to short.
- There is no borrowing fees for contracts.

+ Dangers:

- Counterparty risk.
- Trading the option will not eliminate the legal risk.
- Regulatory risk.
- You may not properly understand all the risks you are taking

Vocabulary

1–F

2–A

3–E

4–D

5–C

6–B

7–H

8–G