Derivatives can be used either to hedge or to speculate. These actions:
A) Increase risk in both cases
B) Decrease risk in both cases
C) Spread or minimize risk in both cases
D) Offset risk by hedging and increase risk by speculating

Question

Quizplus · Accepted Answer

Derivatives can be used in two ways- to hedge or to speculate. When derivatives are used for hedging, the intention is to reduce or eliminate risk. For example, if an investor holds a stock that has increased in value but is concerned that the stock price may decline in the future, the investor could buy put options to protect against a potential decline in the stock price. This would reduce the risk of holding the stock.

On the other hand, when derivatives are used for speculation, the intention is to take on risk in the hope of making a profit. For example, an investor may purchase call options on a stock that they believe will increase in value, hoping to profit from the potential price increase.

Thus, the use of derivatives for hedging can offset or reduce risk, while the use of derivatives for speculation can increase risk. Therefore, the best choice is D- Offsetting risk by hedging and increasing risk by speculating.

Derivatives Can Be Used Either to Hedge or to Speculate