Section: 5 Capital Market Securities

Sub Section: 5 Derivatives Market

A significant development in financial markets in recent years has been the growth of futures and options markets. Futures and options provide payoffs that depend on the values of other assets, such as commodity prices, bond and stock prices, or market index values. For this reason, these instruments are sometimes called ‘derivative assets’ or ‘contingent claims’. Their values derive from, or are contingent on, the values of other underlying assets. Examples include:

  • Call Options: An agreement that gives an investor the right (but not the obligation) to buy a stock, bond, commodity, or other instrument at a specified price within a specific time period.

  • Put Options: Option contract giving the owner the right, but not the obligation, to sell a specified amount of an underlying security at a specified price within a specified time.

  • Futures Contracts: An exchange traded agreement to buy or sell a particular type and grade of commodity for delivery at an agreed upon place and time in the future. Futures contracts are transferable between parties.

  • Forward Contracts: A cash market transaction in which delivery of the commodity is deferred until after the contract has been made. Although the delivery is made in the future, the price is determined at the initial trade date.

  • Interest Rate Swaps: A deal between banks or companies where borrowers switch floating-rate loans for fixed rate loans in another country. These can be either the same or different currencies.

  • Currency Swaps: A swap that involves the exchange of principal and interest in one currency for the same in another currency.