Final answer:
A financial instrument whose value depends on an underlying asset is known as a derivative. Derivatives, such as those used in hedging to guarantee an exchange rate, help firms mitigate risks associated with currency fluctuations.
Step-by-step explanation:
A financial instrument whose value is derived from the value of an underlying asset is called a derivative. Derivatives are used for various purposes, including hedging, which involves reducing potential losses from fluctuations in the value of an underlying asset. For instance, if a U.S. firm is exporting to France and will receive payment in euros, they face a risk that the euro might devalue against the dollar by the time they receive payment. To protect against this currency risk, they can enter into a derivative contract that locks in a specific exchange rate, thus ensuring that they know what the contract will be worth in U.S. dollars. These contracts are commonly handled by financial institutions or brokerage companies that provide these services for a fee or spread.