Trading in the Derivatives Market

The derivative market is exposed to certain risks and volatile market movements. Hence, it is prudent to understand the nitty-gritty of trading in the derivative market so as to earn maximum with minimum risk. The following steps help in trading efficiently in the volatile market.

Step 1: Prior to trading the different types of derivatives, one must open an online trading or demat account. In the case of hiring brokers for trading derivatives, one can take orders over the phone or online mode.

Step 2: Before beginning the trading, a premium amount needs to be paid and it cannot be withdrawn until the contract is completed and the trading is closed. In case, your premium amount goes below the minimum permissible amount while trading, you will be given a notification to rebalance it.

Step 3: You should be aware of the underlying asset and all the information should be known. Further, a budget needs to be prepared and it should be sufficient enough to fulfill the financial requirements of the premium for trading, cash in hand, and contract prices.

Step 4: Until the trading is closed, you should keep your investments in the contract.

Derivatives are a form of special financial instrument where the value of these instruments is derived from an underlying asset or an index. As the name goes, derivatives are linked to some form of financial instrument, indicator, or commodity. Some commonly used assets include stocks, bonds, commodities, currencies, and market indices. Initially, these underlying assets are created using any individual security or a combination of securities. As the value of these securities changes, the value of the derivatives also keeps changing. Derivatives are those complex instruments used in trading risk in the financial markets by either hedging, speculating, or arbitraging. Derivatives form the basic concept under consideration in financial engineering. The primary purpose of derivative contracts is to generate profit by speculating the future value of the underlying asset.

Geeky Takeaways:

• Derivatives are financial contracts where the value is determined based on the underlying stocks, bonds, commodities, or certain market indices. In simple words, predicting and agreeing to a future value of an underlying asset.
• These financial contracts are used by hedgers, speculators, arbitrageurs, and margin traders for risk management, hedging, speculation, and arbitrage among different markets.
• Derivatives are traded in two platforms either via over-the-counter (OTC) trading or via a standardized exchange.
• These contracts can take either simple or complicated forms of options, futures, forwards, swaps, or warrants.