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Derivative Instruments Basics
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Futures
A financial contract obligating the buyer to purchase an asset, or the seller to sell an asset, at a predetermined future date and price.
Options
A financial derivative that gives the buyer the right, but not the obligation, to buy or sell an asset at an agreed-upon price within a certain period or on a specific date.
Swaps
A derivative in which two counterparties exchange cash flows of one party's financial instrument for those of the other party's financial instrument.
Forwards
A customized contract between two parties to buy or sell an asset at a specified price on a future date.
Credit Derivatives
A financial instrument used to manage exposure to credit risk, whereby the risk of default on a debt that is transferred from the holder of the debt to the seller of the derivative.
Exotic Options
Options that have features making them more complex than commonly traded vanilla options.
Binary Options
A type of options contract in which the payoff is either a fixed monetary amount or nothing at all.
Warrants
Long-term options that give the holder the right to buy a certain amount of a security at a specified price before the expiry.
Convertible Bonds
A type of bond that can be converted into a predetermined number of shares of the issuing company's stock during certain periods during its life, usually at the discretion of the bondholder.
Interest Rate Futures
Futures contracts with an underlying instrument that pays interest.
Currency Futures
Futures contracts to exchange one currency for another at a specified date in the future at a price (exchange rate) that is fixed on the purchase date.
Equity Derivatives
Financial instruments whose value is at least partly derived from one or more underlying equity securities.
Commodity Futures
Futures contracts where the underlying asset is a commodity like grain, precious metals, electricity, oil, beef, orange juice, and natural gas.
Volatility Index (VIX) Futures
Futures contracts that allow traders to hedge or speculate on the volatility of the stock market, based on the VIX index.
Weather Derivatives
Financial instruments that can be used by organizations or individuals to hedge against the risk of weather-related losses.
Asset-backed Securities
Securities whose income payments and hence value are derived from and collateralized (or 'backed') by a specified pool of underlying assets.
Real Estate Investment Trusts (REITs)
Companies that own, operate, or finance income-generating real estate. REITs provide a way for individual investors to earn a share of the income produced through commercial real estate ownership without actually having to buy, manage or finance any properties themselves.
Collateralized Debt Obligations (CDOs)
A type of structured asset-backed security with multiple 'tranches' that can be affected by the prepayment, default, and recovery rates of a set of diversified assets.
Mortgage-backed Securities (MBS)
A type of asset-backed security that is secured by a mortgage or collection of mortgages.
Inflation-indexed Bonds
Bonds where the principal is indexed to inflation. They are thus designed to cut out the inflation risk of an investment.
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