'The upside of derivatives'

I just found this interesting blog which makes a case for the worth of derivatives. He makes a distinction between financial derivatives, properly regulated and - 'geopolitical' derivatives which he says are basically a bet on any risk which is not financial - and pretty bonkers. There's lot's of other interesting stuff at his blog too.

http://www.jeffvail.net/2008/10/geopolitical-risk-derivatives-markets.html

We'll all be wizards of the financial markets by the time this god-awful crisis is over.

Aragon wrote:

I just found this interesting blog which makes a case for the worth of derivatives. He makes a distinction between financial derivatives, properly regulated and - 'geopolitical' derivatives which he says are basically a bet on any risk which is not financial - and pretty bonkers. There's lot's of other interesting stuff at his blog too.

http://www.jeffvail.net/2008/10/geopolitical-risk-derivatives-markets.html

We'll all be wizards of the financial markets by the time this god-awful crisis is over.

You seem to have a natural flair for it too, Aragon.

There are derivatives and then there are derivatives. Nothing wrong with futures but these modern inventions have got to be outlawed. Take the CDSs. Ban them because they are fraudalent in the sense that those who write them have little intention of paying should they be called upon to do so.

If they did not exist it would just mean that the bond issuer would have to pay a higher rate of interest. No big deal.

There seems to be an up side of shorting too. I can see the sense in that.

All these things served their purpose in the days when there were functioning markets, I suppose.

youngdan wrote:

There are derivatives and then there are derivatives. Nothing wrong with futures but these modern inventions have got to be outlawed. Take the CDSs. Ban them because they are fraudalent in the sense that those who write them have little intention of paying should they be called upon to do so.

If they did not exist it would just mean that the bond issuer would have to pay a higher rate of interest. No big deal.

There's nothing wrong with CDS derivatives if the underwriting insitution is well capitalized and kept to pretty servere leveraging ratios. Of course, there should be against the law to releverage the CDS by using it as collateral. From what I understand, this is almost tanamount to creating money supply - not through the issuance of new script but through the collaterisation of collateralisation of collateralisation. Maybe it's closer to the money multiplier effect.

Every derivative may have its uses but just like options over time the uses become very specified and understood by the participants abnd less open to abuse and profit.

Unforunately for the US the use of derivatives have most likely helped to destroy the dollar and the global pre-eminance of the US financial system. When bankers return to being bankers, and not casinos, the US will probably recover in due order. The next decade won't be pretty.

What company has enough money to cover even one CDS on a say a 5 billion dollar bond. The risk is swapped to the party with least assets. It is the bond issuer who got the money and the bond buyer has paid the money so they owe nobody nothing. The CDSs writer might have the net worth of any one of us here but assumes a huge potential payout.

The point you make about derivatives on derivatives is where is goes haywire