Derivatives are financial instruments/contracts that derive their value from another underlying asset such as a stock, bond, commodity, or currency. Over the past few years, derivatives have become an essential risk management tools for corporates, and financial institutions alike. Essentially a corporate can hedge different risks such as interest rate risk or currency fluctuation risk by entering into derivative contracts. They are also used by arbitrageurs and help in price discovery.

The CFA exam has a whole section dedicated to derivatives, with focus on futures, forwards, options, swaps, and risk management applications of these derivative products.

For Level 1, this section has only 5% weight. That is, total 12 questions will be asked on derivatives from a total of 240 questions. Even though the weightage is low does not mean that you skip this section. First, it’s an easy section as you are being tested only on the basics of derivatives. Second, the exam is graded based on sections, and you need to score a minimum in each section.

Derivatives are a part of all the three levels in the CFA exam. CFA Exam 1 covers only the product information in terms of how each of these derivatives work and how they can be used. In Level 2, the focus is on pricing of these derivatives.

We have developed detailed study notes for the entire derivatives section which can be used by anyone to prepare for the CFA exam. These notes are organized into different tutorials as listed below:

• Forward Markets and Contracts
• Futures Markets and Contracts
• Basics of Options
• Caps, Floors, and Swaptions
• Option Valuation
• Swaps
• Options Strategies

While studying for CFA derivatives section, you should specially pay attention to the examples of these instruments, and their profit/payoff profiles. For example, you should understand the payoff from a call or a put option, how futures differ from forwards, how margin is calculated, how comparative advantage is used to establish swap contracts, and how we can combine calls and puts to build synthetic positions.

The above notes provide you details yet specific information on what you need to learn about derivatives. Along with the notes, practice as many questions as you can and make flash cards for the important concepts.