DERIVATIVES

MARKET
WHAT IS A “DERIVATIVE”?
The term ‘Derivative’ stands for a contract whose price is derived from
or is dependent upon an underlying asset.
The underlying asset could be a financial asset such as currency, stock
and market index, an interest bearing security or a physical
commodity.
As Derivatives are merely contracts between two or more parties,
anything like weather data or amount of rain can be used as
underlying assets.
NEED FOR DERIVATIVES
The derivatives market performs a number of economic functions. They
help in :
Transferring risks
Discovery of future as well as current prices
Catalyzing entrepreneurial activity
Increasing saving and investments in long run.
PARTICIPANTS IN DERIVATIVE MARKETS
Hedgers

Speculators

Arbitrageurs
WHAT IS OTC (OVER THE COUNTER)??
Over the Counter (OTC) derivatives are those which are privately
traded between two parties and involves no exchange or
intermediary.

Non-standard products are traded in the so-called over-the-counter

(OTC) derivatives markets.

The Over the counter derivative market consists of the investment

banks and include clients like hedge funds, commercial banks,
government sponsored enterprises etc.
EXCHANGE TRADED DERIVATIVES MARKET
A derivatives exchange is a market where individuals trade
standardized contracts that have been defined by the exchange.

A derivatives exchange acts as an intermediary to all related

transactions, and takes initial margin from both sides of the trade to
act as a guarantee.
 CLASSIFICATION OTC
OF DERIVATIVES
(Over the
counter ) trading
Future Contracts
Forward Contracts Exchange Traded
Options Derivatives
Swaps
OTC Exchange Traded
Rupee Interest Rate Forward Rate agreements, Interest Rate futures
Derivatives Interest rate Swaps

Foreign Currency Derivatives Forwards, Swaps, Options Currency Futures

Equity Derivatives Index Futures, Index Options,

Stock futures, Stock options
 FORWARD CONTRACT
Forward is a non-standardized contract between two parties to buy
or sell an asset at a specified future time at a price agreed today.

For Example: If A has to buy a share 6 months from now. and B has
to sell a share worth Rs.100. So they both agree to enter in a forward
contract of Rs. 104. A is at “Long Position” and B is at “Short Position”
Suppose after 6 months the price of share is Rs.110. so, A overall
gained Rs. 4 but lost Rs. 6 while B made an overall profit of Rs. 6.
 SWAP CONTRACT
The derivative in which counterparties exchange certain benefits of one party's
financial instrument for those of the other party's financial instrument. The benefits in
question depend on the type of financial instruments involved. The types of Swaps
are:
Interest rate swaps
Currency swaps
Commodity swaps
Equity Swap
Credit default swaps
 FUTURES CONTRACT
Futures contract is a standardized contract between two parties to
exchange a specified asset of standardized quantity and quality for
a price agreed today (the futures price or the strike price) with
delivery occurring at a specified future date, the delivery date.
Since such contract is traded through exchange, the purpose of the
futures exchange institution is to act as intermediary and minimize the
risk of default by either party. Thus the exchange requires both
parties to put up an initial amount of cash, the margin.
 OPTIONS
An option is a derivative financial instrument that specifies a contract
between two parties for a future transaction on an asset at a
reference price.

The buyer of the option gains the right, but not the obligation, to
engage in that transaction, while the seller incurs the corresponding
obligation to fulfill the transaction.
Thank You !!