MOST COMMON TYPES OF DERIVATIVES

10 points on How to invest in stock market in India

Derivatives are very powerful financial instrument that lets traders bet on the future price of an underlying asset. These are basically contracts or agreements wherein two parties agree on a price to be seen on a specified future date.

Derivatives have become more popular among traders, with many of them making huge money off these kinds of contracts. 

There are many reasons why trader and even institutions use derivatives. Some of them want to use it for hedging, making themselves safe from possible losses or from unstable rates. Other use it to circumvent some kind of regulations banning them from investing in the traditional way. 

Others find derivatives useful for speculation, while others use it to lower their trading expenses. 

Whichever way they are used, it’s hard to deny the fact that derivatives are dominating the financial markets nowadays. So here’s a list of the 3 most common types of derivatives you should try today. 

Forward contracts

Forward contracts can be treated as the simplest form of derivatives. They also happened to be the oldest form of derivative trading. 


In its simplest form, a forward contract is an agreement in with the buyer and the seller agree to buy or sell an asset at the specific future date. The price at which the sale will be done, on the other hand, will be decided at the present date. 

Forward contracts exist between two counterparties, meaning there’s no exchange involved in the transaction. It’s not regulated or standardized. This should warn you that if you choose to enter a forward contract, you should be aware of the counterparty risks. 

Futures Contracts

Futures contracts are very similar to forward contracts in the manner that they also enable two parties to a sales of an asset in the future even though the price is set in the present. 

The difference is that futures are traded on an exchange, which acts as the parties’ intermediary.
 Futures are standardized, which means that you and the other party have no capability to modify what’s on the contract. These contracts have strict formats, sizes, and expirations. There’s a daily settlement procedure, which means that any gains or losses should be settled within the trading day. 


Lastly, parties that are involved with the futures contract are obliged to follow through the trade. 

Options Contracts

Many traders sometimes get confused between futures and options. They both let the buyer and seller to agree on the underlying asset’s price on a specified future date. 

The trick to remembering how futures and options are different is through their names. In futures contracts, both the buyer and the seller of the underlying asset are obliged to execute the trade on the specified date. On the other hand, the options contract only give the right or the “option” to the parties to push through the agreement. 

This means that if you think the contract is not going to do you any favour, you can just ignore it. 

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