Basis risk is the difference between the price of an underlying
asset and the price of a derivative contract that is based on that asset. Basis risk can be caused by a variety of factors, including changes in interest rates, changes in credit spreads, and changes in the volatility of the underlying asset.
In financial terms, basis risk occurs when there is an imperfect correlation between the hedging instrument, such as a derivative or a financial contract, and the underlying asset, such as a commodity, interest rate, or currency. The purpose of hedging is to reduce or eliminate risks by taking offsetting positions, but basis risk can undermine the effectiveness of the hedge.