Derivatives is the term given to financial instruments whose value derives from an underlying asset, e.g. shares, bonds or share indices. Over the past 20 years derivatives have become an important element of the financial world, and these instruments are now traded on exchanges worldwide. The most common types of derivatives are futures and options.
Futures
A future is an agreement to buy or sell a security on a stated future date at a price agreed. Both the buyer and the seller are under an obligation to respectively buy and sell the security at the time agreed. Futures are therefore similar to forward contracts and fixed price agreements on the bond market.
The following is specified in the futures contract:
the asset to be traded (the underlying asset)
when the trade is to take place (the expiry date)
the price that must be paid (the strike price)
The price is fixed at the time of contracting. The purchase of a future thus grants the right, but also places the obligation to buy the underlying asset. As such the purchase of a future is similar to actually buying the asset, however, the transfer does not take place until a future agreed time. Likewise, the sale of a future grants the right, but also places the obligation to sell the asset at a time and price agreed. The sale of a future is thus similar to the seller having sold the asset, however, once again the transfer does not take place until a future agreed time.
Futures are traded in the OMX Nordic Exchange’s electronic trading system, CLICK™, in which futures prices are displayed continuously.
Options
An option or an option contract is an agreement between two parties granting the buyer (the holder) the right, but not the obligation, to buy or sell an underlying asset at an agreed price. For this right the buyer pays an option premium to the seller. The seller is obliged to accommodate the holder's right at any time.
Call options A call option is an option to purchase, which entitles the holder to buy a stated security at a price and time agreed. ’Call’ designates that you are electing to purchase when you exercise your right.
Put options Contrary to purchase rights the investor may also buy options with a right to sell. A ‘put option’ gives the holder the right to sell a stated security at a price and time agreed. Put refers to the placing or disposing of something, i.e. selling a security.
The following is specified in the option contract:
the asset to be traded (referred to as the underlying asset)
the time when the trade is to take place (the expiry date)
the price that must be paid (the strike price) if the option holder exercises his purchase right
An example of a call option would see the buyer has the right, but not the obligation, to buy 100 shares at the price of 80 before or on the expiry date. If the market price of the shares on the day of expiry is 105, a capital gain of 25 per share can be achieved if the purchase right is exercised. If, on the other hand, the market price is 70, the right to buy shares at the strike price of 80 will not be used. For this right a price is payable, the "option premium".
Options are traded in the OMX Nordic Exchange's electronic trading system, CLICK™, in which option prices are displayed continuously.
Trading in futures and options is suited to private investors, businesses and financial institutions, and may be used for speculation and hedging against price exposure. Trading can be done through a derivatives member firm of OMX Nordic Exchange. The futures and options that may be traded are based on individual shares or equity indexes. Futures and options are cleared, guaranteed and settled by OMX Derivatives Market.
