Basics of derivatives
In this chapter: Forwards, futures, options, swaps · Underlying, lot size, expiry
A derivative is a financial contract whose value derives from an underlying asset — equity, index, currency, commodity, or interest rate. Forwards and futures lock in a future price today. Options give the right (not obligation) to transact. Swaps exchange cash flows between parties. All four exist in Indian markets in some form.
Forwards are OTC, customised, with counterparty risk. Futures are exchange-traded, standardised (lot size, expiry), with the clearing corporation as central counterparty (eliminating bilateral default risk). Options come in two types: Calls (right to buy) and Puts (right to sell). Each has American style (exercisable any time before expiry) or European style (only on expiry); Indian index options are European, stock options American. Swaps in retail context appear mainly as currency or interest-rate swaps for institutional players.
Subtle but exam-tested: stock options have moved from monthly-only to weekly expiries (now mostly removed for stocks; index continues with weekly). The shift to physical settlement of stock derivatives in 2018-19 changed risk profiles materially — long calls in-the-money on expiry now require taking actual delivery, with the associated margin and cash. Many retail traders were caught off-guard by this; the exam tests whether you understand the implication.