Derivatives

RECENT NEWS
Mondo Visione  Aug 5  Comment 
The International Swaps and Derivatives Association, Inc. (ISDA) today announced that its EMEA Credit Derivatives Determinations Committee resolved that a bankruptcy credit event occurred in respect of Grupo Isolux Corsan Finance B.V.. The...
Reuters  Aug 3  Comment 
An Italian prosecutor has proposed that Morgan Stanley pay 2.9 billion euros ($3.2 billion) to settle derivative transactions, the bank said on Wednesday in a securities filing.
Mondo Visione  Aug 2  Comment 
Hong Kong Exchanges and Clearing Limited (HKEX) announced that the morning trading in its securities market, including Shanghai-Hong Kong Stock Connect trading, and derivatives market has been delayed due to the issuance of Typhoon Signal No....
Wall Street Journal  Jul 29  Comment 
The Brexit vote has raised questions about London’s position as the world’s financial-services capital. A close look at the derivatives business makes plain how massive a change a move away from London would be.
Mondo Visione  Jul 21  Comment 
This staff memorandum provides thoughtful recommendations on central counterparty (CCP) recovery and wind-down. As Sponsor of the Market Risk Advisory Committee (MRAC), I have been a part of a number of public discussions on these crucial issues,...
Wall Street Journal  Jul 20  Comment 
EU antitrust regulators said they accepted commitments offered by International Swaps and Derivatives Association and data provider Markit that will make it easier to trade credit-default swaps on regulated exchanges.
Mondo Visione  Jul 19  Comment 
Osaka Exchange, Inc. is proud to announce the launch of our new derivatives trading platform "J-GATE". In addition to the launch of new "J-GATE", OSE introduces new products, rules, and functionalities. Along with those new features, OSE...
Mondo Visione  Jul 18  Comment 
The International Swaps and Derivatives Association, Inc. (ISDA) today announced that its Americas Credit Derivatives Determinations Committee resolved that a failure to pay credit event occurred in respect of the Commonwealth of Puerto...
Financial Times  Jul 18  Comment 
Investing in changing industries is very hard




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Derivatives are investment vehicles whose price is dependent on an underlying asset. The most common form of derivatives include stock options, futures & swaps. Options are contracts that give the holder the right but not the obligation to buy or sell a specific security at a pre-determined price on a pre-determined date. The two kinds of options are call and put options. A call holder has the right but not the obligation to “call” stock away from the call writer. So as the price of the underlying security, in this case a stock moves up (or down) the call option becomes worth more (or less). Since derivatives are essentially a contract with an associated value there are many forms of derivatives. Some companies use derivatives to hedge against natural resource price swings or fluctuations in weather that may affect yields.

Derivatives are used by investors to:

  • Provide leverage (or gearing), such that a small movement in the underlying value can cause a large difference in the value of the derivative
  • Speculate and make a profit if the value of the underlying asset moves the way they expect (e.g., moves in a given direction, stays in or out of a specified range, reaches a certain level)
  • Hedge or mitigate risk in the underlying, by entering into a derivative contract whose value moves in the opposite direction to their underlying position and cancels part or all of it out
  • Obtain exposure to the underlying where it is not possible to trade in the underlying (e.g., weather derivatives)
  • create option ability where the value of the derivative is linked to a specific condition or event (e.g. the underlying reaching a specific price level)


Example: A lease option to buy a house. The lease contract has terms that give you the right to buy the house at a specific price any time you want (until the lease contract expires). Suppose the terms stated that you could buy the house anytime within the first year of leasing from the owner for 100,000. If the price of the house (local real estate boom) increased to 150,000 you could buy the house for 100,000 and then sell it for 150,000 for a profit of 50,000. If the price of house price dropped (perhaps crime increase) you would have no incentive to exercise your option to buy, so you let that contract expire (worthless) and you do not buy the house. As illustrated here, the contract derives its value NOT from the paper on which it is written, but from the actual market price of another object (the house in this case). This is the basic premise for instruments of specualation known as derivatives.

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