Equity
In accounting and finance, equity is the residual claim or interest of the most junior class of investors in assets, after all liabilities are paid. If valuations placed on assets do not exceed liabilities, negative equity exists. In an accounting context, Shareholders' equity (or stockholders' equity, shareholders' funds, shareholders' capital or similar terms) represents the remaining interest in assets of a company, spread among individual shareholders of common or preferred stock.
At the start of a business, owners put some funding into the business to finance assets.
Preferred stock
Also called preferred shares, preference shares, or simply preferreds, are a special equity security that has properties of both equity and a debt instrument and is generally considered a hybrid instrument. Preferreds are senior (i.e. higher ranking) to common stock, but are subordinate to bonds.
Preferred stock usually carries no voting rights, but may carry priority over common stock in the payment of dividends and upon liquidation. Preferred stock may carry a dividend that is paid out prior to any dividends being paid to common stock holders. Preferred stock may have a convertibility feature into common stock. Terms of the preferred stock are stated in a "Certificate of Designation".
Derivative
In financial terms, a derivative is a financial instrument - or more simply, an agreement between two people or two parties - that has a value determined by the price of something else (called the underlying). It is a financial contract with a value linked to the expected future price movements of the asset it is linked to - such as a share or a currency.
There are many kinds of derivatives, with the most notable being swaps, futures, and options. However, since a derivative can be placed on any sort of security, the scope of all derivatives possible is nearly endless. Thus, the real definition of a derivative is an agreement between two parties that is contingent on a future outcome of the underlying.
Forward Contract
In finance, a forward contract or simply a forward is a non-standardized contract between two parties to buy or sell an asset at a specified future time at a price agreed today. This is in contrast to a spot contract, which is an agreement to buy or sell an asset today.
It costs nothing to enter a forward contract. The party agreeing to buy the underlying asset in the future assumes a long position, and the party agreeing to sell the asset in the future assumes a short position. The price agreed upon is called the delivery price, which is equal to the forward price at the time the contract is entered into.
Futures Contract
In finance, a futures contract is a standardized contract between two parties to buy or sell a specified asset of standardized quantity and quality at a specified future date at a price agreed today (the futures price). The contracts are traded on a futures exchange.
Futures contracts are not "direct" securities like stocks, bonds, rights or warrants. They are still securities, however, though they are a type of derivative contract. The party agreeing to buy the underlying asset in the future assumes a long position, and the party agreeing to sell the asset in the future assumes a short position.
Option
In finance, options are a type of financial instrument classed as derivatives, as they 'derive' their value from an underlying asset. An option gives its holder the right, but not the obligation, to buy (call option) or to sell (put option) some underlying asset on or before the option's expiration date at an agreed on price (the strike price).
In return for granting the option, the originator of the option collects a payment (the premium) from the buyer. Granting the option is also referred to as "writing" the option. It is useful to make the distinction between the term "seller" and "writer" when describing options. An option can be sold by its original buyer to another party.
The writer of an option who is the originator of the option who must make good on delivering (or receiving) the underlying asset or its cash equivalent, if the option is exercised.
· A call option gives the buyer of the option the right but not the obligation to buy the underlying at the strike price.
· A put option gives the buyer of the option the right but not the obligation to sell the underlying at the strike price.
Swaps
Swap is a derivative in which counterparties exchange certain benefits of one party's financial instrument for those of the other party's financial instrument. The benefits in question depend on the type of financial instruments involved. For example, in the case of a swap involving two bonds, the benefits in question can be the periodic interest (or coupon) payments associated with the bonds.
Specifically, the two counterparties agree to exchange one stream of cash flows against another stream. These streams are called the legs of the swap. The swap agreement defines the dates when the cash flows are to be paid and the way they are calculated. Usually at the time when the contract is initiated at least one of these series of cash flows is determined by a random or uncertain variable such as an interest rate, foreign exchange rate, equity price or commodity price.
The cash flows are calculated over a notional principal amount, which is usually not exchanged between counterparties. Consequently, swaps can be used to in cash or collateral.
Swaps can be used to hedge certain risks such as interest rate risk, or to speculate on changes in the expected direction of underlying prices.
Interest rate swaps
The most common type of swap is a “plain Vanilla” interest rate swap. It is the exchange of a fixed rate loan to a floating rate loan.
The life of the swap can range from 2 years to over 15 years. The reason for this exchange is to take benefit from comparative advantage.
Currency swaps
A currency swap involves exchanging principal and fixed rate interest payments on a loan in one currency for principal and fixed rate interest payments on an equal loan in another currency.
Just like interest rate swaps, the currency swaps also are motivated by comparative advantage.
Commodity swaps
A commodity swap is an agreement whereby a floating (or market or spot) price is exchanged for a fixed price over a specified period. The vast majority of commodity swaps involve crude oil.
Equity Swap
An equity swap is a special type of total return swap, where the underlying asset is a stock, a basket of stocks, or a stock index.
Compared to actually owning the stock, in this case you do not have to pay anything up front, but you do not have any voting or other rights that stock holders do have.
Credit default swaps
A credit default swap (CDS) is a swap contract in which the buyer of the CDS makes a series of payments to the seller and, in exchange, receives a payoff if a credit instrument - typically a bond or loan - goes into default (fails to pay). Less commonly, the credit event that triggers the payoff can be a company undergoing restructuring, bankruptcy or even just having its credit rating downgraded.
CDS contracts have been compared with insurance, because the buyer pays a premium and, in return, receives a sum of money if one of the events specified in the contract occur. Unlike an actual insurance contract the buyer is allowed to profit from the contract and may also cover an asset to which the buyer has no direct exposure.
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