Growth of Derivatives- Derivatives are financial instruments that have values derived from other assets like stocks, bonds, or foreign exchange. Derivatives are sometimes used to hedge a position (protecting against the risk of an adverse move in an asset) or to speculate on future moves in the underlying instrument. Hedging is a form of risk management that is common in the stock market, where investors use derivatives called put options to protect shares or even entire portfolios. The growth in financial markets, globalization of the major stock exchanges, increase in the number of players in the markets and the creation of new financial opportunities led to the creation of a wide array of instruments tailor-made to manage the evolving risk-return profile.
A major portion of international financial activity is a response to regulations and taxes. Interest rate futures and options, currency futures, and options on stock indexes are being traded in exchanges on a worldwide basis.
Over-The-Counter (OTC) instruments (instruments not traded in exchanges) consist of interest rate swaps, currency swaps and other swap related derivatives such as caps, collars, floors and swaptions. These investment vehicles are designed to hedge against the fluctuations in various markets. While they are enormously profitable they also make trading more volatile.
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