A derivative is a financial contract whose value is dependent on, or derived from, the value of an underlying asset, index, or rate.
The underlying asset can be anything from stocks, bonds, commodities, currencies, interest rates, or market indexes. Derivatives are used for various purposes, including hedging risk, speculating on price movements, or gaining access to additional assets or markets.
Common types of derivatives include:
- Forwards: Customized contracts to buy or sell an asset at a specified price on a future date.
- Futures: Standardized contracts traded on exchanges to buy or sell an asset at a predetermined price and date.
- Options: Contracts that give the holder the right, but not the obligation, to buy or sell an asset at a specific price within a certain timeframe.
- Swaps: Agreements to exchange cash flows or other financial instruments, often involving currencies or interest rates.
