ECONOMICS (CBSE/UGC NET)

Detailed explanation-1: -Derivatives are usually leveraged instruments, which increases their potential risks and rewards. Common derivatives include futures contracts, forwards, options, and swaps.

Detailed explanation-2: -A derivative is a financial instrument that derives its performance from the performance of an underlying asset. The underlying asset, called the underlying, trades in the cash or spot markets and its price is called the cash or spot price.

Detailed explanation-3: -Businesses and investors use derivatives to increase or decrease exposure to four common types of risk: commodity risk, stock market risk, interest rate risk, and credit risk (or default risk).

Detailed explanation-4: -Derivatives can be incredibly risky for investors. Potential risks include: Counterparty risk. The chance that the other party in an agreement will default can run high with derivatives, particularly when they’re traded over-the-counter.

Detailed explanation-5: -Derivatives can greatly increase leverage. When the price of the underlying asset moves significantly and in a favorable direction, options magnify this movement.