When thinking about the stock market, certainly not many people are aware of the range of opportunities that financial instruments offer us. One of the non-obvious investor tools are the most ordinary bets, which in financial nomenclature used to be called derivatives.
What are derivatives?
Derivatives are nothing more than financial instruments whose value depends on designated underlying instruments.
The attached definition suffices to supplement it with a succinct comment that an underlying instrument is nothing more than the object of our bet, which we do not physically buy at all, but simply discuss with the other party its potential price changes. Thus, derivatives are such a bidding war as to whether the price of an asset will rise or fall.
What can be the subject of a bet?
In fact, how many people, so many ideas. However, due to the market nature of the transaction, or legal entitlements, the range of available items remains limited, but nevertheless represents quite a rewarding and even unexpected set of assets. Here is the list of underlying instruments:
- Stock prices, stock indexes
- Currencies, cryptocurrencies
- Interest rates
- Commodity prices
- (Bullion: e.g. gold, silver)
- (Agricultural commodities: e.g. pepper, coffee, cotton)
- (Energy: natural gas, oil)
- Weather factors
Does this mean you can make money on the weather?
Definitely yes, although as a rule, weather derivatives are sometimes used for preemptive purposes. Today’s agricultural corporations, amusement park boards, utilities and many industries worried about exposure to weather risks can financially secure their fate thanks to derivatives.
The subject of a weather bet can be wind speed, a drop or rise in temperature or rainfall totals. Although such instruments may seem useless to the ordinary investor, they find use even among unusual industries.
As an example, consider the organizer of a sports event whose venture is located outdoors. In such a situation, rainfall represents a certain materialization of weather risk as a result of which, the organizer may incur a costly loss. Redemption of the derivative ensures the maintenance of a minimum rate of return on the sporting event, because if rainfall occurs the organizer will be insured against it. It is worth noting that the essence of betting takes into account the two-pronged development of events, that is, both losing (rain) and winning (no rain). Therefore, in the latter situation, the organizer is forced to pay the concluded transaction to the other party.
Should weather derivatives shock?
I think not necessarily. We live in an era where money can be bet on the number of yellow cards in a soccer match, the order in which hoofed foursomes cross the finish line, a particular configuration of cards and symbols in a casino, the algorythmic numbers in a drawing machine, the presumption of the next celebrity pregnancy, or the prediction of the Pope’s successor. So the same speculative money can just as well be invested in hedging on proven stock market and OTC platforms.
The choice is yours – Let’s the coin move!