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When trading on the stock market one way to balance losses is using a financial instrument called a derivative. With skill and sound advice from an experienced professional, derivatives can be used to manage risk. They work as a source of additional income or protection for the existing value of shares held.
Where do you begin?
An Australian Stock Exchange (ASX) accredited advisor is the best place to start. Although intended to assist in the management of risk, they can expose you to more or less risk, depending on how you decide to use them. It is not an approach to be considered lightly or entered into haphazardly. The work by conveying to parties the rights, obligations and options to buy or sell securities at an agreed price and / or on an agreed date.
How can I make derivatives work for me?
One common way derivatives are used is in relation to fairly stable shares. The holder of the shares makes an educated guesstimate as to their value on a future date (say two months away), then, promises to sell them at that price at that time. In the meantime, the holder is paid a premium on what he/she estimates is the future price. If they reach that price in two months time the holder must sell. If they do not reach that price the holder has earned the premium in the meantime.
This is a very simplified case study and just one of many ways derivatives can be used to balance future earnings or provide present income.
What types of derivatives are there?
There are two main types of derivatives traded on the ASX – warrants and options. Within those two categories are a number of variants. They include: options, flex options, long term options, low exercise price options (LEPOs) and index LEPOs. In addition there are equity call and put warrants, instalment warrants, endowment warrants, low exercise price warrants and index warrants.
There are regular courses run by the ASX for active investors.
