Derivatives are financial assets that base their value on something else. This can be an underlying asset or basket of assets. The most common types are stocks, bonds, commodities, market indexes, or cryptocurrencies.
The derivative product itself is essentially a contract between multiple parties. It gets its price from the underlying asset that’s used as the benchmark. Whatever asset is used as this reference point, the core concept is that the derivative product derives its value from it. Some common examples of derivatives products are futures contracts, options contracts, and swaps.
According to some estimates, the derivatives market is one of the biggest markets out there. How so? Well, derivatives can exist for virtually any financial product – even derivatives themselves. Yes, derivatives can be created from derivatives. And then, derivatives can be created from those derivatives, and so on. Does this sound like a shaky house of cards ready to come crashing down? Well, this may not be so far from the truth. Some argue that the derivatives market played a major part in the 2008 Financial Crisis.
A futures contract is a type of derivatives product that allows traders to speculate on the future price of an asset. It involves an agreement between parties to settle the transaction at a later date called the expiry date. As we’ve discussed with derivatives, the underlying asset for a contract like this can be any asset. Common examples include cryptocurrency, commodities, stocks, and bonds.
The expiration date of a futures contract is the last day that trading activity is ongoing for that specific contract. At the end of that day, the contract expires to the last traded price. The settlement of the contract is determined beforehand, and it can be either cash-settled or physically-delivered.
When it’s delivered physically, the underlying asset of the contract is directly exchanged. For example, barrels of oil are delivered. When it’s settled in cash, the underlying asset isn’t exchanged directly, only the value that it represents (in the form of cash or cryptocurrency).
If you’d like to trade futures on Binance, make sure to check out The Ultimate Guide to Trading on Binance Futures.
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