Date: 27.04.2016
Today, I would like to discuss more about "Derivatives"
Revision in brief:
1. We understood that a forward contract can be entered between two parties without the involvement or need of any other intermediary.
2. We called such contracts as Over The Counter contracts (OTC) contracts.
3. In the previous example, we had discussed is having discussion on two types of assets. The primary asset is WATER BOTTLES and the secondary asset is "FORWARD CONTRACT".
4. Many people may get a doubt, where is the secondary asset. I will explain how it can be treated as a secondary asset.
Scenario
Date: 27.04.2016, the current cash price or spot price of water bottle is: $2.00 each
Date: 27.05.2016, the forward price (agreed between two parties) with a delivery date of 27.05.2016 is: $2.25 per bottle each.
Let us assume that after 10days (say on 10.05.2016) and the price of water bottle in the cash market or the spot market has moved to $2.25 and it is likely to touch $2.50 per bottle by 27.05.2016.
This indicates that the party who agreed to buy the water bottles at $2.25 from other party is likely to benefit because of this contract. This is because, the seller agreed to sell at $2.25, when the outside prices or market prices are likely to be $2.50
(Please understand this contract is transferable, tradable and marketable contract).
This means, that the party who is going to buy 1000 water bottles is likely to gain by $0.50 per bottle or with a total amount of $250 (1000*$0.25) in the next 17 days.
Now, here is the word called TRADING. So, if someone is likely to benefit by $250 in next 15 - 17 days, then he can sell this contract papers to someone for say around $200 or $225 (ignore time value)......right?
This means.....The Forward contract agreement / papers are going to change hands...This particular holder of the Forward Contract is going to sell it to someone...
So, what do we understand?
1. The water bottles are anyways, they are getting traded (bought and sold) in the market.
2. But, the most important thing is "THE FORWARD CONTRACT...WHICH IS BUILT BASED ON THE WATER BOTTLES ARE ALSO GETTING TRADED.
So, friends....
What is the primary asset: Water Bottles
What is the secondary or derived asset: Forward Contract Agreements
Coming back to the definition of Derivative: The value is derived from the primary or underlying asset.
I think I have made you to understand the concepts....
All the very best...
Don't hesitate to write to me on: CFA.SURYA@GMAIL.COM
Today, I would like to discuss more about "Derivatives"
Revision in brief:
1. We understood that a forward contract can be entered between two parties without the involvement or need of any other intermediary.
2. We called such contracts as Over The Counter contracts (OTC) contracts.
3. In the previous example, we had discussed is having discussion on two types of assets. The primary asset is WATER BOTTLES and the secondary asset is "FORWARD CONTRACT".
4. Many people may get a doubt, where is the secondary asset. I will explain how it can be treated as a secondary asset.
Scenario
Date: 27.04.2016, the current cash price or spot price of water bottle is: $2.00 each
Date: 27.05.2016, the forward price (agreed between two parties) with a delivery date of 27.05.2016 is: $2.25 per bottle each.
Let us assume that after 10days (say on 10.05.2016) and the price of water bottle in the cash market or the spot market has moved to $2.25 and it is likely to touch $2.50 per bottle by 27.05.2016.
This indicates that the party who agreed to buy the water bottles at $2.25 from other party is likely to benefit because of this contract. This is because, the seller agreed to sell at $2.25, when the outside prices or market prices are likely to be $2.50
(Please understand this contract is transferable, tradable and marketable contract).
This means, that the party who is going to buy 1000 water bottles is likely to gain by $0.50 per bottle or with a total amount of $250 (1000*$0.25) in the next 17 days.
Now, here is the word called TRADING. So, if someone is likely to benefit by $250 in next 15 - 17 days, then he can sell this contract papers to someone for say around $200 or $225 (ignore time value)......right?
This means.....The Forward contract agreement / papers are going to change hands...This particular holder of the Forward Contract is going to sell it to someone...
So, what do we understand?
1. The water bottles are anyways, they are getting traded (bought and sold) in the market.
2. But, the most important thing is "THE FORWARD CONTRACT...WHICH IS BUILT BASED ON THE WATER BOTTLES ARE ALSO GETTING TRADED.
So, friends....
What is the primary asset: Water Bottles
What is the secondary or derived asset: Forward Contract Agreements
Coming back to the definition of Derivative: The value is derived from the primary or underlying asset.
I think I have made you to understand the concepts....
All the very best...
Don't hesitate to write to me on: CFA.SURYA@GMAIL.COM
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