Open Your Free Demat Account
Enjoy low brokerage on delivery trades
Notification
![close image]()
No new Notification messages
Seshaasai Technologies Ltd IPO
Apply for the Seshaasai Technologies Ltd IPO through UPI in Just minutes
Start your SIP with just ₹100
Choose from 4,000+ Mutual Funds on Bajaj Broking
Open a Free Demat Account
Pay ZERO maintenance charges for the first year, get free stock picks daily, and more.
Trade Now, Pay Later with up to 4x
Never miss a good trading opportunity due to low funds with our MTF feature.
Track Market Movers Instantly
Stay updated with real-time data. Get insights at your fingertips.
What Are Embedded Derivatives?
By Bajaj Broking Team
November 26, 2025
4 mins read
Futures and Options
Many investors are familiar with derivatives, especially in commodity and stock markets. But investing evolves, and older methods often adapt. One such concept is embedded derivatives.
If you have not heard of them, think of this as an introduction. Some investors even call them hybrid securities. The term fits because these instruments are part of wider contracts. Sometimes those contracts are financial, sometimes not.
If you already deal with derivatives in trading, understanding this area can broaden your perspective.
Understand the Embedded Derivatives Meaning
Normally, derivatives mirror the value of an asset. If the asset rises or falls, the derivative moves too. Clear enough.
But certain derivatives never appear alone. They are hidden inside larger agreements. These are known as embedded derivatives. The agreement they sit in is called the host.
You will often see them in bonds, loans, or lease contracts. They may take the shape of options, futures, or swaps. Despite being attached to the host, they carry an independent value.
This creates challenges for accountants. Why? Because their value may move differently from the host. Accounting rules, therefore, treat them separately. Each part must be recognised on its own.
So, even though they sound technical, embedded derivatives are simply financial features stitched into wider contracts. Knowing them helps you see both the surface and what lies inside.
Embedded Derivatives – An Illustrated Example
Picture a listed company issuing bonds. The bond payments are linked to the price of gold. If gold prices change, coupon payments change too.
In this case, the bond is the host. Gold is the embedded derivative within it. This mix shows how cash flows depend on two elements, not one.
There are many such examples. Each highlights how embedded derivatives connect market values with contract terms.
Uses of Embedded Derivatives
Embedded derivatives appear across different contracts. You may find them in leases, insurance policies, preferred shares, or convertible bonds. They also exist in supply contracts, commodity agreements, and equity-linked notes.
These instruments are not traded on stock exchanges. Instead, they form part of customised agreements between parties. Investors often use them to manage risks or benefit from market price movements.
From an accounting angle, separation is vital. Hosts and embedded parts are measured individually. This prevents confusion and ensures financial records reflect reality.
Still, these derivatives influence host cash flows. That is why they matter in practice.
Accounting of Embedded Derivatives
Accounting for embedded derivatives can feel tricky at first. You are handling two connected parts within one contract.
The host and the derivative often behave differently. That means they cannot be valued together. Each must be identified and measured separately.
Usually, the derivative is measured at fair value. The host follows its standard accounting method. Any change in the derivative’s value appears in profit and loss.
By separating them, companies avoid errors and provide investors with a clearer view of risk and cash flows.
Embedded Derivatives Accounting – Bifurcation
The term bifurcation often appears in this context. It simply means splitting a contract into two components. One is the host, like a bond or lease. The other is the embedded derivative inside it.
Why is this important? Because both parts respond differently to market shifts. Treating them as one can blur risks.
Through bifurcation, accountants measure the derivative at fair value. The host is valued under its own rules. This keeps financial statements accurate and transparent.
Hybrid Financial Contracts
When a host and an embedded derivative combine, the result is a hybrid contract. These are common in debt instruments, preferred stock, insurance, and lease agreements.
The embedded part may take many forms. It could be a put or call option, an equity index, or an interest rate link. Each influences the cash flows of the host in its own way.
Although still new for some investors, hybrid contracts are worth understanding. They show how financial tools adapt within agreements to meet market needs.
Conclusion
Embedded derivatives may sound complex, but they are simply contract features that react differently from their hosts. Once you understand them, the accounting becomes easier to follow.
Separating the two elements offers clarity. Businesses get accurate records, while investors gain transparency. In the end, it is about understanding the hidden details in agreements that shape real financial outcomes.
Share this article: 
Read More Blogs
Disclaimer :
The information on this website is provided on "AS IS" basis. Bajaj Broking (BFSL) does not warrant the accuracy of the information given herein, either expressly or impliedly, for any particular purpose and expressly disclaims any warranties of merchantability or suitability for any particular purpose. While BFSL strives to ensure accuracy, it does not guarantee the completeness, reliability, or timeliness of the information. Users are advised to independently verify details and stay updated with any changes. The securities are quoted as an example and not as a recommendation. Past performance is not necessarily a guide to future performance.
The information provided on this website is for general informational purposes only and is subject to change without prior notice. BFSL shall not be responsible for any consequences arising from reliance on the information provided herein and shall not be held responsible for all or any actions that may subsequently result in any loss, damage and or liability. Interest rates, fees, and charges etc., are revised from time to time, for the latest details please refer to our Pricing page.
Neither the information, nor any opinion contained in this website constitutes a solicitation or offer by BFSL or its affiliates to buy or sell any securities, futures, options or other financial instruments or provide any investment advice or service.
BFSL is acting as distributor for non-broking products/ services such as IPO, Mutual Fund, Insurance, PMS, and NPS. These are not Exchange Traded Products. For more details on risk factors, terms and conditions please read the sales brochure carefully before investing.
Investments in the securities market are subject to market risk, read all related documents carefully before investing. This content is for educational purposes only. Securities quoted are exemplary and not recommendatory.
For more disclaimer, check here : https://www.bajajbroking.in/disclaimer
Our Secure Trading Platforms
Level up your stock market experience: Download the Bajaj Broking App for effortless investing and trading
+91
|
Please Enter Mobile Number
Open Your Free Demat Account
Enjoy low brokerage on delivery trades
+91
|
Products
Calculator
Mutual Funds & SIP
Important Links
Corporate
Popular Stocks
Indian Indices
Global Indices
Sector Wise Stocks
BAJAJ BROKING
Download App Now
Follow Us :
Useful Links
