The derivative market is catered to the trading of derivatives between two entities, value of which is derived from the underlying assets like stocks, bonds, currencies, interest rates, commodities and market indices. Any fluctuations in these assets determine the value of these securities. Three key categories of participants of trading derivatives are hedgers, speculators, and arbitrageurs. Hedgers use variants of the derivatives to reduce or eliminate risks, speculators bet on future movements of price to ensure potential gain and loss in a tentative manner, and arbitrageurs take complete advantage of various price discrepancies in two different markets. The reason why so many participants are actively participating in the market is the bunch of benefits offered by the derivatives.
There are many benefits or advantages of the derivative market. Some of the key economic functions of the derivative market are:
These offer low transaction cost and increased gains.
It also minimizes the risk of variable loss in the financial market.
The market is a clear reflection of the market perception. It helps discover both the future and current prices of underlying assets.
The market experiences higher trading volume because of increased participation of players or investors in the market.
Derivatives provide a significant tool or mechanism through which all the investors or the participants can judge the movement of prices and protect themselves from financial risks.
These securities are inherent in nature and are deeply rooted to the underlying cash flows.
Financial market is a