What are Currency Derivatives?
Currency Derivatives are exchange-traded contracts deriving their value from their underlying asset, i.e., the currency. The investor buys or sells specific units of fixed currency on a pre-specified date and rate.
These contracts are actively traded on the stock exchanges and are mainly used by importers and exporters to hedge against domestic currency fluctuation. Currency derivative contracts are standardised through a foreign regulatory exchange .
Types of Currency Derivatives
Currency Futures: Like Stock Future, Currency Futures are contracts that allows you to buy and sell an underlying currency at a pre-determined date. Moreover, the buy and seller can lock in the exchange rate in the present time itself. Therefore, both the buyers and sellers can avoid currency depreciation. Currency Futures is more frequently used by banks, importers, and exporters.
Currency Options: They are similar to Currency Futures when it comes to trading the underlying currency. The difference, however, is that it is not mandatory for you to buy or sell the underlying currency pairs on expiry. Therefore, Currency Options are flexible than Futures, where you must trade the derivatives on a specified date. Currency Options are classified into two types:
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