We consulted the Yahoo! Finance Glossary and found this definition: A financial security such as an option or future whose value is derived in part from the value and characteristics of another security, the underlying asset. At Investorwords.com, we learned that when you invest in a derivative, the underlying asset is usually a commodity, bond, stock, or currency. You "bet" that the value derived from the underlying asset will increase or decrease by a certain amount within a certain fixed period of time. Still confused? So were we. We found the Derivatives category in Business 2.0's handy Web Guide, and with a sigh of relief, clicked on a FAQ offering "answers to 10 common questions about financial derivatives." Derivatives is a generic term for a variety of financial instruments. Unlike financial instruments such as stocks and bonds, a derivative is usually a contract rather than an asset. Essentially, this means you buy a promise to convey ownership of the asset, rather than the asset itself. The legal terms of a contract are much more varied and flexible than the terms of property ownership. In fact, it's this flexibility that appeals to investors. "A good toolbox of derivatives allows the modern investor the full range of investment strategy" and "the
sophisticated management of risk," according to the derivatives specialists at NumaWeb. Futures and options are two commonly traded types of derivatives. An options contract gives the owner the right to buy or sell an asset at a set price on or before a given date. On the other hand, the owner of a futures contract is obligated to buy or sell the asset. The option-shunning experts at the Motley Fool pointed us to their Options FAQ, complete with warnings and reminders that 80% of all options traders lose money. Motley Fool referred us to the Learning Center at the Chicago Board Options Exchange, the largest options exchange in the world. We found a series of tutorials
on options strategy and pricing, and more warnings about their overall riskiness. The Chicago Mercantile Exchange also offers interactive educational resources. When it comes to derivatives, there is no bliss in ignorance.
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