Financial derivatives are instruments
of investments that take the value of something else. Hence, financial derivatives have no intrinsic value. In high finance,
financial derivatives are taken in form of contracts where a party pays for an asset and arranges for a payment at a particular
point in time. The main types of derivatives are futures, forwards, options, and swaps (Wikipedia 2007 [online]).
A transaction on derivative financial
pricing can be illustrated in simple terms. As an example, a certain John sells a contract to Jane according to the value
of oil. In a futures contract, John is obligated to buy back the contract from Jane after two weeks. By that time the value
of oil may have dropped or increased. If the value of oil dropped then John loses his investments. However, if the price of
oil increases, then John made money off his investments. In simplistic terms, a financial derivative investment is a wager
on the value of another product.
Financial derivatives are made on a
wide arrange of products including foreign currencies, metals, bushels of wheat, stock, and government bonds. The derivative
market has become an experimental environment for leisure stock trading found today in the internet. These special internet
sites can speculate on the value of a celebrities or athletes.
Financial derivatives follow the economic
exercise of speculation or prediction. John Maynard Keynes (1936) likened speculation and derivative thinking to be “anticipating
what the average opinion expects the average opinion to be.” The value of speculation in a short term markets on financial
derivatives is an established exercise since Keynes.
Despite being one of the most complex,
if not the most sophisticated financial tool today, financial derivatives have a long economic history that gave an idea of
economics though during these times. Futures trading started in 12th century Europe when traded sign contracts that promise to future delivery of items were sold. In
this sense the sale was made even before the delivery. By the time of the delivery, the price of that good might have changed.
However, since the contract stands, traders in financial derivatives are forced to speculate on the value of the good being
produced. Trading of futures is essential in those times to give a safeguard for sellers during bad weather or warfare (Gambling
on Derivatives nd)
Financial derivative markets also appear
to have more volatility than stock exchanges. Since the value is derived, a lot of people speculate on the value of these
sticks which causes either a tremendous upswing or downswing that either provides a high risk and high interest.
The science of financial derivatives
is never exact and far from being organized. What financial derivatives expect from investors is the ability to forecast.
A wise guess and sound information is the key to any success financial derivatives. However, it is important for a beginning
investor to know the basics first before employing such markets. Winners of this game of financial derivatives end up taking
handsome return for their investments while putting unwanted buyers in danger of such risks.
References
Wikipedia. (2007). Financial Derivatives.
Available: http://en.wikipedia.org/wiki/Financial Derivatives. Last accessed 18 October 2007.
