Tuesday I posted a blog that mentioned financial derivatives. You have most likely heard of the term. A derivative is a security that has a value tied to the value of another security known as the underlying. Examples of derivatives are options and futures. Examples of underlying assets are stocks bonds commodities and mortgages.
Let’s look at a very simplified version of a derivative. You purchase an estate gold necklace for $2 000. Two years after the purchase the price of gold has doubled. The value of your necklace would have likely also risen because the cost of gold a commodity has increased. The value of your necklace then is derived from the cost of another asset gold. (Note that the necklace is an estate piece. If the necklace was purchased at full price from a retailer it is unlikely that the true market value would have increased much. This concept is like the purchase of a new car depreciating the moment you drive it off the lot.)