Essay on Derivative

Central banks use two types of transactions: spot transactions (an agreement between two parties to buy or sell currency in exchange for another at the current exchange rate) which are settled within two business day (Spot Transactions, n.d.) and forward transactions which are contracts trading in the over the counter markets (OTC) that lock in the exchange rate of a currency to be bought or sold in the future. An example of forward transaction would be when an American company sells its goods to a Mexican company to be paid in one year and the American company enters into a forward transaction to lock the amount of money to be paid in the future. (Currency Forward Definition,

B the permanent movement of funds from one currency to another in the hopes of profiting from long. term investment in a particular country.

Futures are a contract or legal agreement, where an investor agrees to purchase a certain amount of a physical good or financial asset on a specific date for a set price.

Unlike order to pay, the promise to pay has a maker and a bearer involved in the transaction. The maker is the person that issues the promise to pay, and the bearer is the person that will be paid. A promissory note is a written promise stating that one party will pay the other party the specific amount to be paid (Miller & Hollowell, 2014). A promissory note is also known as a note and is normally used in credit transaction such as a mortgage transaction. The person that is entering into an agreement for a mortgage will issue a promissory note stating that the balance of the house will be paid at a certain time. These types of transactions are paid in installments over a period of time. A certificate of deposit or CD is known as a bank note. A CD is used when a party deposits money into a bank. The bank will issue a CD as a promise to pay the amount collected along with interest at a specified time (Miller & Hollowell, 2014).

Firm Fixed Price Contracts (FFP), it is appropriate for most commercial transactions, example: Software package that can be bought for $1,500 regardless of the seller’s cost.

B. fixed-for-fixed rate debt service (currency swap), where one counterparty exchanges the debt service obligations of a bond denominated in one currency for the debt service obligations of the other counter party denominated in another currency

On the business field, a contract is usually between someone who provide a service to a hirer for money. You are promising to do a job for the hirer and the hirer is promising to pay you for it. (government) There is different type of contracts with two major groups: fixed-price and cost-plus contract.

Saving/ investing – this is where money is deposited in an account and is available for later withdrawal. Normally interest is paid

Foreign exchange rates are best described as simply the price of a country’s money expressed in another country’s money. In simple words, it is the rate at which a currency can be swapped for another. An example of determining foreign exchange rates is by substituting goods for currencies. Another example is the yuan-dollar exchange will depend on how well the demand and supply moves. When the demand for dollars in China climbs and supply does not go up correspondingly, each dollar will cost more yuan to buy. (Colander, 2010)

In order to minimise the effect of the potential losses due to foreign currency exchange rate, it essential to understand the use of financial instrument.

Swaps in simple language means, the act of exchanging one thing for another. In financial terms it means an agreement in which two parties agree to exchange series cash flows at some future times according to terms stated in the agreement (Chance and Brooks 2012). They are derivatives because their value is ascertained from some other financial instrument, such as a loan or bond. Swaps are generally priced based on a notional value, which is the dol¬lar value of a contract. The most common type of swap is the interest rate swap in which the two parties agree to enter into an agreement which involve the exchange of payments of fixed rate interest for the payments of floating rate interest or vice versa in the same currency calculated by reference to a mutually agreed notional

(1) Interest rate swap: it is an agreement between two parties, which each party agrees to make interest payments to the other. Typically, one is floating rate and the other is fixed rate, and they exchange interest payment.

contract. In this example, a sale of goods was involved. A sale means that the seller is passing

Futures exchanges are usually used by merchants, farmers and international firms to hedge futures transactions. A futures contract is a legal arrangement, normally made on the marketplace of a futures exchange, where a commodity or financial instrument is bought or sold at a prearranged price at a specified time in the

Furthermore it is possible to buy and sell European option contracts, an option gave the holder the right to buy or sell the underlying futures contract at a predetermined price.