1: derivatives definition
2: how derivatives work
3: types of derivatives
4: derivatives vs stocks
Quick pick
Public Securities derive their value from any other public security of stock or bonds using the business industry or commodities product, which that public Security became as derivatives.
Opening information:
Derivatives are derived from one matter or thing called derivatives.
Let’s say you have one gold, if you use the value of the gold price to contract between the two parties to conduct the speculation is called derivatives.
Because you conducting this speculating activity based on the gold price. The price of the contract is derived from the gold price, that’s why it is called a derivative.
When this activity is conducted based on one Matter or thing, then it is called derivative.
This article contains information about what derivatives in the stock market, how derivatives work what are the types of it’s derivatives and what is the difference between derivatives and stocks.
1: derivatives definition
The stocks and bonds are trading in the stock exchange which are considered as Real ownership of the companies and debt instruments.
Business uses the bonds and stocks to sell the ownership of the stock and bonds as a debt. but when comes to derivatives business won’t have any benefits.
Derivatives are deriving one securities price to run the betting agreements between two people called derivatives. which means a contract agreement between two people to bet on the rise and fall of the Securities.
But the Securities are not bought by these people, these securities are bought by the Investor, they model or copy the price charts of any particular securities to run
their speculative bets.
The bets are simple like head and tails. two of the parties have to bet on any of the sides, but two of them must have to bet on any of the sites to run this operation.
This is like the head and toss, after the toss, if heads win the person who bet on heads would win, and the other person who bet on the tail would lose.
Because this is not Investing instead it’s speculating, or the tail wins the person who bet on the head loses. The person who wins owns the other person’s money.
This applies in derivatives heads called call options and tails called put options. Using the option of call and put, two parties bet on any sides by getting into an agreement to accept the loss.
Once the call wins then put option loss or put wins then call options loss.
This contract agreement between two people using any of the underlying Securities prices of models to derive the price values to speculate or gamble is called a derivative. So now let’s have a look at how derivatives work.
2: how derivatives work
Let’s say the stock A is trading at 19 dollars. Coping this stock A model.
The person John thinks that the price of Particular Stock A would rise above a certain level of 19 within 2 months. And the Smith think stock A would decline below the 19 within 2 months.
So Smith wrote the contract to John if the price of stock A would be above 19 dollars after two months, Smith agreed to pay any of the remaining amounts which is more than 19 dollars would be paid to John.
Once stock A rises above 19 dollars within the two months, then the price of stock A at the end of the two months would be paid to John.
To accept this risk Smith charges a specific amount say 10 10-dollar premium from John.
At the end of the period at month two, if stock A’s price is above the strike price of 19, Smith would have to pay the remaining amount above 19 dollars, or if stock A ends below 19 dollars then Smith keeps the 10 dollars which is paid by the John.
Here Smith is the option writer because Smith gives the option to John to buy stock A at 19 dollars no matter how much the price grows above 19 dollars at the end of the two months.
And John is the option purchaser who bought the contract for 10 dollars. Here contract amount of 10 dollars is called a premium.
Then here the two months are called expired time which is contract time. Next stock A is an underlying asset.
Here John pays 10 dollars to Smith. John is paying the 10 dollars for the risk that Smith takes on John’s bet, but not John paying the 10 dollars for real stock A.
Then Smith did not give any shares or stocks to John, instead, he gave the remaining money once the stock A above 19 dollars to purchase the same stock A at 19 dollars after the two months. This bet agreement between John and Smith is called a contract.
Briefly say John wants to buy stock A after two months at 19 dollars. But John thinks the stock A wouldn’t be at 19 dollars after the two months.
On the other hand, Smith wants to sell stock A at 19 dollars. But Smith the stock A would be lower than 19.
So these two of them get into a contract and accept the risk, the person who won would be able to purchase or sell not a stock but a contract at their accepted price.
This is how the total all types derivatives works, but the derivatives have types, so get dig into it.
3: types of derivatives
When it comes to derivatives there are lots of types of derivatives around the world depending on the rights of the contract agreements.
But the common are options and futures the ones which trade on the exchanges. Other derivatives are traded over the counter.
So let’s have a look only at the options and future derivatives. When comes to John and Smith’s derivatives contract. If they do in options derivatives John gets money for an increase above the 19 dollars but John won’t purchase stock A.
If they do in future derivatives John had money for an increase above 19 dollars, but John purchased stock A for 19 dollars no matter if the price of stock A was very high.
Most people think that derivatives and stocks are the same. So let’s dig into the key difference between the stock and derivatives.
4: derivatives vs stocks
Derivatives are contract bet that runs for raise and fall bets using the stock price, but they aren’t real stocks of ownership.
But stocks aren’t the same, it’s run for raising capital, and stocks are real ownership and debt instruments for loans for public companies.
The key difference is derivatives are agreements between the buyer and seller that don’t have any relationship with Companies or securities
but the stock is the shares of real Companies, so buyers and sellers exchange among themselves for the profits.
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