This document provides an introduction to derivatives as financial instruments. It discusses the key types of derivatives which include forwards, futures, swaps, and options. Forwards and futures are contracts to buy or sell an underlying asset at a future date, while swaps involve exchanging cash flows. Options provide the right but not obligation to buy or sell the underlying. Derivatives allow participants like hedgers to reduce risk, while speculators aim to profit from price changes. Overall, derivatives play an important role in price discovery, risk transfer, and shifting speculative trades to organized markets.

1. Derivatives
Financial Instrument

2. AGENDA
● Introduction to Derivatives as a Financial Security
● Ways to Trade in Derivatives
● Types or Products in Derivatives ( Forwards, Futures, Swaps, Options )
● Participants in Derivatives ( Hedgers, Speculators, Arbitrageurs )
● Significance of Derivatives

3. Introduction
● Derivative is a financial security in the form of contract whose value is derived from an
underlying asset
● The buyer agrees to purchase the asset in future on a specific date at a specific price
● Thus, it is a contract between two or more parties, and its price is determined by
fluctuations in the underlying asset
● Derivatives are based on wide range of underlying assets like –
a) Financial assets such as shares, bonds, debentures
b) Metals such as gold, silver, aluminium, copper, lead, zinc, tin etc.
c) Energy resources such as coal, oil, natural gas, electricity etc.
d) Agri commodities such as wheat, cotton, pulses, sugar etc.

4. Ways to trade in derivatives
Over the Counter (OTC)
Exchange Traded
Derivative (ETD)
Direct between
buyer and seller
Traded through
stock exchange

5. Forwards
Products in Derivatives Market
● Forwards – It is a contractual agreement
between two parties to buy/sell an underlying
asset on a specified future date for a particular
price that is pre-decided on the date of contract
● Both the contracting parties thus forms an
agreement and are obliged to honour the
transaction irrespective of the market price of
the underlying asset at the time of delivery
● Since forwards are negotiated between two
parties the terms and conditions of contracts
are customized in accordance with both of
them

6. Futures
Products in Derivative Market
● A future contract is similar to a
forward contract except that the
contract is made through a regulated
exchange rather than being
negotiated directly between two
parties
● Futures are exchange traded
forward contracts

7. Options
Products in derivatives market
● An option is a contract that gives the
right, but not an obligation , to buy or
sell the underlying on or before a stated
date and at a stated price
● While buyer of option pays the premium
and buys the right , seller of option
receives the premium with obligation to
sell/buy the underlying asset, if the
buyer exercises his right

8. Swaps
Products in derivatives market
● A swap is an agreement made between
two parties to exchange cash flows in
the future
● Swaps help market participants
manage risk associated with volatility
mainly in interest rates and currency
exchange rates
● For example- Interest rate swaps
performed to switch from a floating
interest to fixed interest and vice-versa

9. ● Hedgers –
● Speculators / Traders –
● Arbitrageurs -
Participants in Derivatives
They face risk associated with the prices of underlying assets and use
derivatives to reduce their risk. Corporations, Financial institutions and
Banks all use derivative products to hedge or reduce their exposures to
market variables such as interest rates, share values, bond prices,
currency exchange rates
They try to predict the future movements in prices of
underlying assets and based on the view, take positions
in derivatives contract to earn maximum profit
Arbitrage is a deal that produces profit by discovering a price
difference in same product in two different markets. Arbitrageurs are
traders who purchases an asset cheaply in one location and
manages to sell at higher price in another location

10. Significance of Derivatives
● Derivatives market facilitates price discovery based on expectations
and actual valuation
● Derivatives market helps transfer of various risks
● Derivatives market helps shift of speculative trades from unorganized
market to organized market
● Risk management mechanism

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