What are derivatives?

Derivatives are financial instruments whose value is derived from an underlying asset, which can include various types of investments such as stocks, bonds, commodities, or market indices. This relationship means that the price of the derivative fluctuates based on the price movements of its underlying asset.

Common types of derivatives include options, futures, and swaps. Investors use derivatives for various purposes, such as hedging against risks, speculating on market movements, or gaining exposure to certain assets without needing to directly own them. The connection to the underlying asset is pivotal, as it allows traders to leverage their positions and manage risk more effectively. Understanding this fundamental characteristic of derivatives is essential for comprehending their role in financial markets.