Derivatives price of an underlying item, for example an

 Derivatives are
not products, they are securities in which they are linked to another security,
such as stocks or bonds. A derivatives value is based on the
security they are related to, and they are therefore worth nothing by themselves. The buyer agrees to
purchase the asset on a fixed date at a specific price knowing that the
contract’s seller doesn’t have to own the underlying asset. Instead, he can
achieve the contract by giving the buyer enough money to buy the asset at the ultimate
price. Not only but also the contract’s seller can give the buyer another
derivative contract that offsets the value of the first. This results
in making derivatives much easier to trade than the asset itself. Derivatives
have features that allow them to be used as hedging tools, hence reducing the
risk faced by organizations and individuals.A report prepared by the statistics
department in International Monetary Fund defines derivatives as financial
instruments in which they are linked to a specific financial instrument, indicator
or commodity. Through which specific financial risks can be traded in financial
markets in their own right. The author added that transactions in financial
derivatives should be treated as separate transactions rather than as essential
parts of the value of underlying transactions to which they may be linked. The
value of a financial derivative arises from the price of an underlying item, for
example an asset or index. The author differentiate between financial
derivatives and debt instruments, were in derivatives no major amount is
advanced to be repaid and no investment income accumulates. The report also addressed
that financial derivatives works for risk management, hedging, arbitrage, and
speculation.A recent study shows that: “In 2016,
25 billion derivative contracts were traded.  Asia commanded 36 percent of
the volume, while North America traded 34 percent. Twenty percent of the
contracts were traded in Europe. These contracts were worth $570 trillion in
2016. That’s six times more than the economic output of the world.” Moreover
the study also added that “More than 90 percent of the world’s 500 largest
companies use derivatives to lower risk”.

Financial derivatives are securities
linked to another security, derivative’s value is derived from the value of the
underlying asset. A transaction is present when both parties the buyer and the
seller write a contract, in which fixed date at a specific price is agreed in
advance. Trading derivative is easier than trading the asset itself, derivatives
are used as hedging tools, therefore reducing the risk faced by organizations
and individuals. Companies also transcribe contracts to protect themselves from
changes in exchange rates and interest rates. Derivatives are traded worldwide,
they are traded in special markets, and buy different traders. This will be
further introduced in the parts below.

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