What does financial instrument mean?
A financial instrument is an asset, but refers specifically to contracts or similar tokens of trust which can be traded, transferred, or exchanged.
Here’s a simple example. If you give someone an IOU for $10 and that person transfers that IOU to a 3rd party, who could then come to you to claim the $10, that piece of paper saying 'I owe you $10' is a simple financial instrument.
Financial instruments involve one party owing another party something: cash, part ownership of a company, interest, or future delivery of another asset. They include equities (stock shares), loans, bonds, currency, futures contracts, options, binary options, knock-outs, Nadex Call Spread contracts, and US Treasury bills and notes.
Financial instruments are one type of asset
However, there are other kinds of assets besides instruments. An asset can be anything of value which has a price. All of these are assets:
Dollar bills, yen notes, rupee coins
Bushels of corn
Gold bars and coins
Shares of company stock
Barrels of oil
Stock index futures contracts
Of the above, the corn, gold, and oil are not financial instruments. However, a contract for immediate or future delivery of corn, gold, or oil is a financial instrument.
Two types of financial instruments: cash and derivative
Cash instruments have value based on what the market says they are worth. Buyers and sellers agree on a price. Or in the case of debt instruments, borrowers and lenders agree on the amount to be transferred or loaned as well as the interest rate and terms of repayment.
Derivative instruments, as the name implies, derive their value from the value of something else: an asset, a measurement, an interest rate or other variable, or even another derivative.
Even a number like the weekly jobless claims can serve as the underlying asset of a derivative. On Nadex, you can trade the weekly jobless claims number and whether it will go up, down, or stay the same using a weekly binary option on the weekly jobless claims. A binary option is a derivative financial instrument.
The binary option, knock-out or spread's price reflects the underlying asset price
The price movement of the underlying market impacts the derivative. For example, if the price of a barrel of oil goes from $50 to $55, the value of a binary option based on that underlying asset would also tend to go up. The underlying asset in this case is the crude oil futures contract for the current front-month.
The exact increase in the price of the derivative, the binary option, isn't predetermined by a fixed formula or decided by Nadex. The price of the binary is decided by the buyers and sellers themselves.
Because a barrel of crude oil is now worth $5 more, it makes sense that the binary option based on that asset would also be more valuable. Sellers will demand a higher price for it and buyers will be willing to pay more.
It's important for traders to have accurate price data so they can be sure they are seeing the true price of the underlying asset. The indicative price of a Nadex contract is designed to accurately indicate the current market price in a way that is useful for traders.
Nadex offers trading on the following assets in four asset classes
Stock indices: Dow® (based on CBOT E-mini Dow® Index Futures), S&P 500® (based on CME E-mini S&P 500® Index Futures), Nasdaq 100® (based on CME E-mini Nasdaq 100® Index Futures), Russell 2000® (based on CME E-mini Russell 2000® Index Futures), China A50® (based on SGX FTSE Xinhua China A50® Index Futures), FTSE 100® (based on Liffe FTSE 100® Index Futures), DAX® (based on Eurex DAX® Index Futures), Nikkei 225® (based on SGX Nikkei 225® Index Futures)
Forex: EUR/USD, AUD/USD, EUR/GBP, GBP/USD, USD/CAD, AUD/JPY, USD/JPY, GBP/JPY, EUR/JPY, USD/CHF, USD/MXN
Commodities: gold, silver and copper (based on COMEX/NYMEX® futures prices), crude oil and natural gas (based on NYMEX® futures prices), and corn and soybeans (based on CBOT® futures prices)
Economic events: weekly jobless claims, nonfarm payroll, unemployment rate, GDP