How Does a Smart Contract Relate to a Decentralized Finance (DeFi) Derivative?
A DeFi derivative is a financial contract whose value is derived from an underlying asset, like a token or an index, but is executed and enforced by a smart contract. The smart contract acts as the automated legal agreement, holding collateral, managing margin, and facilitating settlement without the need for intermediaries.
For example, a perpetual futures contract is entirely governed by the code's logic on a decentralized exchange. The contract code defines the derivative's rules, such as liquidation and funding rates.
Glossar
DeFi Derivatives
Volatility ⎊ DeFi derivatives represent synthetically created financial contracts whose value is derived from underlying cryptocurrency assets, extending traditional derivative functionalities ⎊ like futures, options, and swaps ⎊ onto decentralized blockchain networks.
Financial Contract
Agreement ⎊ Financial Contract in the crypto derivatives context is the legally or programmatically binding agreement, often embodied in a smart contract, that defines the rights and obligations between counterparties regarding a future cash flow or asset exchange based on an underlying reference price.
DeFi Derivative
Instrument ⎊ A DeFi Derivative is a financial instrument whose value is derived from an underlying crypto asset, such as Bitcoin or Ether, or a real-world asset tokenized on a decentralized ledger.
Decentralized Finance (DeFi)
Architecture ⎊ Decentralized Finance (DeFi) fundamentally reconfigures traditional financial infrastructure by leveraging blockchain technology, primarily Ethereum, to create open, permissionless, and transparent systems.
Perpetual Futures Contract
Mechanism ⎊ Describes the unique funding rate system that replaces traditional expiry dates, aligning the contract price with the underlying spot market.
Liquidation Mechanism
Mechanism ⎊ The liquidation mechanism, within cryptocurrency derivatives, options trading, and broader financial derivatives, represents a pre-defined process triggered when a trader's margin falls below a specified threshold, typically due to adverse price movements.