LESSON 7.1 · ADVANCED

What a derivative is

A contract whose value comes from something else. That's the whole idea.

THE SPECULATIVE EDGE3 MIN READ

A derivative is a contract between two parties whose value depends on something else — the underlying, such as a share, an index, a currency or a commodity. You don't own the underlying thing; you own a promise about it. Most derivatives also have an expiry: a date when the contract ends and is settled, whatever has happened by then.

That's why they behave so differently from a share. A share can be held for decades and gives you a claim on real profits. A derivative pays nothing along the way and is often built with borrowed exposure. Every contract also has someone on the other side, so one party's gain is the other's loss: derivatives move money between the two sides rather than creating it, costs come out of both, and many finish worthless at expiry.

Underlying · a share, index or currencyContract · a promise about its priceExpiry · settled, whatever happened

You own the promise, not the thing. When the date arrives, the promise is all there is.

Educational content only. It is not personal financial advice.