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Types of Financial Derivatives:
In recent years, derivatives have become increasingly important in the field of finance. Forwards, futures, options swaps, warrants, and convertibles are the major types of financial derivatives. A complex variety of composite derivatives, such as swap options, have emerged by combining some of the major types of financial derivatives:
1. Forwards: A forward contract is a contract between two parties obligating each to exchange a particular good or instruments at a set price on a future date. It is an over the counter agreement and has standardized market features.
2. Futures: Futures are standardized contracts between the buyers and sellers, which fix the terms of the exchange that will take place between them at some fixed future date. A futures contract is a legally binding agreement. Futures are special types of forward contracts which are exchange traded, that is traded on an organized exchange. The major types of futures are stock index futures, interest rate futures, and currency futures.
3. Options: Options are contracts between the option writers ad buyers which obligate the former and entitles (without obligation) the latter to sell/buy stated assets as per the provisions of contracts. The major types of options are stock options, bond options, currency options, stock index options, futures options, and options on swaps. Options are of two types: calls and Puts. A call option gives a buyer/holder a right but not an obligation to buy the underlying on or before specified time at a specified price (usually called strike/exercise price) and quantity. A put option gives a holder of that option a right but not an obligation to sell the underlying on or before specified time at a specified price and quantity.
4. Swaps: Swaps are generally customized arrangements between counterparties to exchange one set of financial obligations for another as per the terms of agreement. The major types of swaps are currency swaps, and interest rate swaps, bond swaps, coupon swaps, debt equity swaps.
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