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<blockquote data-quote="Jaysen" data-source="post: 3744" data-attributes="member: 1"><p>Sure.</p><p></p><p>Derivatives are contracts. Their value is based on (derived from) an underlying asset. More specifically, they're based on the value of an underlying asset in the future. In that sense, you can think of derivatives as bets.</p><p></p><p>Derivatives are used to hedge against risk (by entering into a transaction which offsets your exposure) or to speculate (to bet on the change in value of an underlying asset). There are a few different types: <a href="https://www.youtube.com/watch?v=Wjlw7ZpZVK4" target="_blank"><u>great video on that here</u></a>.</p><p></p><p>To give you a more concrete example, suppose you're an airline. You're worried about oil prices going up because it raises your fuel costs. That's where derivatives come in -- you can use a derivative to lock in the price of fuel today. If the price does end up increasing you've saved yourself money. Here, derivatives were used to offset the risk of rising fuel prices in the future.</p><p></p><p>You could also use derivatives to speculate on the future value of an underlying asset. For example, during the financial crisis some investors used derivatives to 'bet' on the housing boom (by betting on the price movement of mortgage backed securities). It's pretty effective because you don't have to actually own the underlying asset to bet on it.</p><p></p><p>Lawyers will help clients to use derivatives to hedge against their risks. For example, a company might want to enter into an interest rate swap to fix the rate of interest it pays (so it is not vulnerable to changes in the interest rate). They'll draft the documentation, negotiate the terms and assess the risks.</p><p></p><p>There are many types of derivatives and they can be complex (as we saw with synthetic CDOs during the financial crisis), so lawyers will also be involved in structuring the transactions. There's also a lot more regulation since the financial crisis (EMIR in the UK and Dodd Frank in the US) so lawyers will help clients understand and comply with the law.</p><p></p><p>I sat in structured finance & derivatives at my firm although I only worked on one derivatives transaction. That was a transaction which came from the corporate team: we had to start drafting (and then later help negotiate) a hedging agreement (which set out the terms of the particular derivative).</p><p></p><p>Let me know if anything is unclear!</p></blockquote><p></p>
[QUOTE="Jaysen, post: 3744, member: 1"] Sure. Derivatives are contracts. Their value is based on (derived from) an underlying asset. More specifically, they're based on the value of an underlying asset in the future. In that sense, you can think of derivatives as bets. Derivatives are used to hedge against risk (by entering into a transaction which offsets your exposure) or to speculate (to bet on the change in value of an underlying asset). There are a few different types: [URL='https://www.youtube.com/watch?v=Wjlw7ZpZVK4'][U]great video on that here[/U][/URL]. To give you a more concrete example, suppose you're an airline. You're worried about oil prices going up because it raises your fuel costs. That's where derivatives come in -- you can use a derivative to lock in the price of fuel today. If the price does end up increasing you've saved yourself money. Here, derivatives were used to offset the risk of rising fuel prices in the future. You could also use derivatives to speculate on the future value of an underlying asset. For example, during the financial crisis some investors used derivatives to 'bet' on the housing boom (by betting on the price movement of mortgage backed securities). It's pretty effective because you don't have to actually own the underlying asset to bet on it. Lawyers will help clients to use derivatives to hedge against their risks. For example, a company might want to enter into an interest rate swap to fix the rate of interest it pays (so it is not vulnerable to changes in the interest rate). They'll draft the documentation, negotiate the terms and assess the risks. There are many types of derivatives and they can be complex (as we saw with synthetic CDOs during the financial crisis), so lawyers will also be involved in structuring the transactions. There's also a lot more regulation since the financial crisis (EMIR in the UK and Dodd Frank in the US) so lawyers will help clients understand and comply with the law. I sat in structured finance & derivatives at my firm although I only worked on one derivatives transaction. That was a transaction which came from the corporate team: we had to start drafting (and then later help negotiate) a hedging agreement (which set out the terms of the particular derivative). Let me know if anything is unclear! [/QUOTE]
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