Derivatives

Derivatives are financial tools that are used to manage risk or to take risk.
A derivative instrument is one whose performance is based on or derived from the behaviour of an underlying security, asset or index.
The most common derivatives are contracts whose value is derived from stocks, bonds, loans, currencies or commodities.
The underlying asset does not have to be bought or sold and the majority of transactions are cash settled.
Derivatives have a direct relationship with the underlying security, asset or index.


The term derivative comes from the fact that these financial products are derived from existing products, stocks, bonds, currencies, exchange rates and commodities
Derivatives on market indices can be an effective tool for minimising the dilution of return potential associated with any strong inflow into a particular hedge fund. The manager can quickly get the fund up to the targeted net market exposure and can then take time to build positions in the desired individual assets. As attractive assets become available the proportion of the index position is reduced.
Derivatives can be used to mitigate risk and gain specific exposure. They can be used to isolate particular types of risk and used to hedge out particular types of risk.


Derivatives are basically financial products that can be used to provide protection against interest rate, currency and stock movements. They are derived from other assets, rather than trade off the asset itself. A derivative is something that derives or has its value linked to the price of some other asset.


Derivative Products - Interest rates, currency rates, bonds, equity - prices constantly changing
These products are then used to exploit risk and to control risk.


Main Types of Derivative

Forwards - For example: ??
Futures - For example: FTSE 100 Futures, Interest Rate Futures
Options - For example: Currency Options,
Swaps - For example: Credit Default Swaps, Interest Rate Swaps, Currency Swaps



Asset Classes

There are 5 different types of derivatives which can be separated by the underlying asset class.

  • Interest Rate Derivatives

  • Foreign Exchange Derivatives

  • Equity Derivatives

  • Commodity Derivatives

  • Credit Derivatives



What are Structured Products ?

Provide a suite of different products
1) Fund derivatives
2) structured funds
3) collaterised debt obligations


Asset Backed Securities
Credit card loans
you can have any asset behind a security



Mortgage Backed Securities
There are 2 types:

  • Residential (agency & non agency)

  • Commercial (non recourse & call protection (prepay lockout, prepay penalty)


Normal mortgage is collaterised by your house.
Securitised Debt Market ??


Special Purchase Vechicle (SPV) - will issue a bond
This is anything that creates a cash flow.




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