Derivatives

Derivatives ? AAPADINA ….
Financial Derivative is a contract between two parties, where the instrument under
trade, derives its value from the price of the underlying asset like an index, Nifty or
F&O stocks, hence the name “derivative”.
Derivative means: it is a derived product
Underlying Asset include commodities like metals, agricultural products, energy sector
and financial assets.
Financial assets include Equities, Index, Bonds and Forex. Derivatives may be exchange
traded or over the counter (OTC).
Example: CRUDE OIL (PETROL & DIESEL)
PETROL & DIESEL are derivatives of crude oil and they derive their value from the
pricing of crude oil. If crude oil prices move higher, it is highly likely that petrol and
diesel may also get expensive.
Financial Derivative Movement:
However, whether the rate of price increase will be the same or different is
uncertain. Derivatives are used to reduce price risk through hedged contracts.
Price behaviour of the financial derivative may be linear or non-linear with the
price movements of the underlying asset.
Financial Derivative Driven by:
India's derivatives industry has grown tremendously. Many derivative contracts

were also offered on exchanges around the globe. Financial derivatives' rise is
being driven by several causes, including:
 Increased volatility in underlying asset prices in financial markets.

 Globally interconnected markets.
 Recent advancements in communication technologies have led to lower
transaction costs
Derivative contracts TYPES:
Derivative contracts include futures, options, forwards, swaps, and so on. Derivatives are
widely traded around the world. However, futures and options are the most important
financial derivatives for Indian capital markets.
Forwards
Forward contracts are a sort of financial derivative contract that is not traded on
an exchange but rather an OTC (over the counter) agreement between two
parties to buy or sell an underlying asset at a predetermined price and date.
Because it is an OTC contract, it may be tailored to the client's specific

requirements, making it an ideal hedging tool.
However, forward contracts include a range of hazards. Global forward markets
are affected by the following risks:
 Lack of centralization of trading

 Liquidity Risk
 Counterparty risk
In India, OTC Forward contracts are a type of hedging in FX markets, and one of
the methods used to hedge remittances/payments is through forward contracts.
Futures
A futures contract is similar to a forward, but it is traded on a regulator-approved exchange

(SEBI in India) rather than OTC. Indeed, futures can be defined as exchange-traded forward
contracts.
OPTIONS VANTHUDUCHUUUUUUUUUU ……..
Options
An option is a contract in which the buyer has the right, but not the obligation,
to buy or sell the underlying asset on or before a predetermined date and price.
While the buyer of an option pays the premium and acquires the right, the
writer/seller of an option receives the premium along with the obligation to
sell/purchase the underlying asset if the buyer exercises the right.
Contract with Right to Buy = Call Option
Contract with Right to Sell = Put Option

Swaps
A swap derivative is a financial contract in which two parties exchange cash

flows or liabilities from different financial instruments over a set period of time.
Here are some crucial points about swap derivatives:
 A swap involves trading future payments under defined terms and

conditions.
 The cash flows traded may be tied to interest rates, currency values, or
other financial benchmarks.
 Swaps are over-the-counter (OTC) contracts that are typically made
between corporations or financial institutions.
RISK in Derivative:
Derivatives or financial derivatives, especially, are leveraged products, where the

potential of profit or loss is manifold as compared to the equity cash market.
So, traders have to be aware of the risks which financial derivatives entail.
So, awareness of the risk factors is important and disciplined trading can work wonders
for derivative traders.
“NANDRI VANAKAM”

Derivatives

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Derivatives ? AAPADINA ….

Derivative means: it is a derived product

Example: CRUDE OIL (PETROL & DIESEL)

Financial Derivative Movement:

India's derivatives industry has grown tremendously. Many derivative contracts

 Increased volatility in underlying asset prices in financial markets.

Derivative contracts TYPES:

Because it is an OTC contract, it may be tailored to the client's specific

 Lack of centralization of trading

A futures contract is similar to a forward, but it is traded on a regulator-approved exchange

OPTIONS VANTHUDUCHUUUUUUUUUU ……..

Contract with Right to Buy = Call Option

Contract with Right to Sell = Put Option

A swap derivative is a financial contract in which two parties exchange cash

 A swap involves trading future payments under defined terms and

Derivatives or financial derivatives, especially, are leveraged products, where the

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