Derivative Instruments & Markets
(Fin. 338)
I. Characteristics of Derivative Instruments & Markets
A. Value is determined by, or derived from, the value of another instrument
vehicle, called the underlying asset or underlying security. (For this
reason, derivative securities are also termed contingent claims, as
their payoff is contingent on prices of other (underlying)
securities/assets).
B. Derivatives come in two general types:
1. Forward/Futures Contracts -are agreements between two
parties wherein the buyer agrees to purchase and the seller
agrees to sell an identified asset, at a specific price upon a
designated date.
a. Allows one to fix the price or rate of an underlying asset.
b. Does not require front-end payment (though futures
contracts normally require a margin payment).
c. Requires future settlement payment.
d. Forward contracts are custom made while futures
contracts are standardized.
2. Options - offer the buyer the right, but not the obligation, to buy or
sell an underlying asset at a fixed price up to or on a specific date.
a. Allows the holder to decide at a later date whether such an
agreement is in their best interest.
b. Requires up front payment.
c. Allows but does not require future settlement payment.
d. Types of option contracts:
(1.) Call option- gives the right to buy specified
investment vehicles at a specific price within a
specified period of time.
(2.) Put option- gives the right to sell specified
investment vehicles at a specific price within a
specified period of time.
II. Derivative Securities Terms.
• A buyer is long in the contract.
• A seller or “writer” is short the contract.
• The price at which the transaction would be made is the strike (exercise)
price.
• The profit or loss on an option position depends on the market price.
• Assets are traded in the spot (cash) market.
Derivative Instruments & Markets (Fin. 338) 1
(Fin. 338)
I. Characteristics of Derivative Instruments & Markets
A. Value is determined by, or derived from, the value of another instrument
vehicle, called the underlying asset or underlying security. (For this
reason, derivative securities are also termed contingent claims, as
their payoff is contingent on prices of other (underlying)
securities/assets).
B. Derivatives come in two general types:
1. Forward/Futures Contracts -are agreements between two
parties wherein the buyer agrees to purchase and the seller
agrees to sell an identified asset, at a specific price upon a
designated date.
a. Allows one to fix the price or rate of an underlying asset.
b. Does not require front-end payment (though futures
contracts normally require a margin payment).
c. Requires future settlement payment.
d. Forward contracts are custom made while futures
contracts are standardized.
2. Options - offer the buyer the right, but not the obligation, to buy or
sell an underlying asset at a fixed price up to or on a specific date.
a. Allows the holder to decide at a later date whether such an
agreement is in their best interest.
b. Requires up front payment.
c. Allows but does not require future settlement payment.
d. Types of option contracts:
(1.) Call option- gives the right to buy specified
investment vehicles at a specific price within a
specified period of time.
(2.) Put option- gives the right to sell specified
investment vehicles at a specific price within a
specified period of time.
II. Derivative Securities Terms.
• A buyer is long in the contract.
• A seller or “writer” is short the contract.
• The price at which the transaction would be made is the strike (exercise)
price.
• The profit or loss on an option position depends on the market price.
• Assets are traded in the spot (cash) market.
Derivative Instruments & Markets (Fin. 338) 1
