Names of murdered police and prison officers were placed on the bonfire in the Bogside area of city.
Poppy wreaths were also put on the bonfire, which was lit on Wednesday night.
The PSNI has described the bonfire as a hate crime.
Three petrol bombs were also thrown at police in the area of the city’s famous walls. A 35-year-old man was arrested on suspicion of making, possessing and throwing a petrol bomb and remains in police custody.
Bonfires on 15 August are traditional in some nationalist parts of Northern Ireland to mark the Catholic Feast of the Assumption.
To others, they are lit to commemorate the introduction of internment without the trial of republican suspects introduced by the British government in 1971.
The name of murdered prison officer David Black was one of those placed near the top of the bonfire.
His son Kyle said he was “absolutely sickened” that boards bearing the names were being burnt.
“My dad, along with the other brave men named, served their community with dignity and respect,” he tweeted.
“This in complete contrast to those responsible for this.”
David Black was shot and killed on the M1 as he drove to work at Maghaberry prison in November 2012.
In June his son spoke about how he drove past the scene of his father’s murder just moments after the shooting, unaware of what had happened.
“We take hate crime very seriously and actively investigate all incidents reported to us,” he added.
“Hate crime is wrong on all levels and the PSNI will do everything it can to ensure that everyone, from whatever background, can live free from prejudice, fear and discrimination.”
Fergal Leonard, group commander for the Northern Ireland Fire and Rescue Service, said: “We arrived in the area around 23:00 BST after the bonfire was lit.
“We had four fire appliances there in total. We knew there were risks near the bonfire. We knew we had to protect lives and buildings.
“The bonfire was at one point 10 to 15 metres away from the nearest building. There was no damage done to any nearby property.”
An aerial ladder was also used as thousands of people watched on.
The bonfire was just a few hundred metres away from a smaller one that had no flags, emblems or messages.
The smaller structure was in the grounds of Gasyard Park and was part of a family and community carnival marking the end of a festival in the area.
The SDLP leader Colum Eastwood said he was “totally appalled”.
He added that community workers had tried to stop the signs being added to the bigger bonfire.
“This nonsense doesn’t represent the views of the people of Derry,” he tweeted. “It’s sectarian and antisocial. Nothing more.”
Mayor of Derry John Boyle said the large bonfire was “certainly not reflective of the people of the Bogside”.
“That sort of activity isn’t wanted, isn’t needed and certainly isn’t welcome by the people in this city.”
Alliance Party leader Naomi Long posted on Twitter that the larger bonfire was “utterly disgusting and shameful”.
“There is no place for this kind of sectarianism, intimidation and disrespect for flags and symbols,” she said.
“A small number of people on both sides of our community seem determined to drag us back. They must not prevail.”
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