What Is the Derivatives Market?

Derivatives are financial instruments with a value that is derived from an underlying asset such as a cryptocurrency, fiat currency, or commodity. Traders in derivatives can bet on the future price of the underlying asset, either as a means of speculation or as a way of hedging risk.

In a derivatives market, there are generally two types of derivatives contract on offer. Options give people the right to buy or sell an underlying asset at an agreed price, but do not obligate them to do so. Futures mean that the transaction must go ahead on the date of expiry.

There are two further common derivative types, known as forwards and swaps, but these are unregulated and therefore not traded on regulated exchanges. Forwards are non-standardized and unregulated futures, while swaps are a contract to exchange financial obligations.

Many of the leading crypto exchanges are also derivatives markets. Indeed, the growth of derivatives is considered by some to be a key requirement for the mass adoption of cryptocurrencies. The 2017 launch of Bitcoin futures by the Chicago Board Options Exchange (CBOE) was an important example of this, with institutional investors now able to trade crypto derivatives — crucially, without having to hold the actual asset.

However, derivatives markets carry serious risks and these can be systemic — as seen during the financial crisis, which was precipitated by the collapse of derivatives. 

In crypto, derivatives markets have been the subject of repeated regulatory crackdowns. The U.K.’s Financial Services Authority announced in October 2020 that the sale of crypto derivatives to retail investors would be banned in the country — citing the volatility of the underlying assets and the risk of cybercrime in crypto.