Derivatives For Dummies: Thousands Have Bought Them Without Even Realizing It - NYDailyNews

[WillyT]

Derivatives for dummies: Thousands have bought them without even realizing it
PETER SIRIS
Monday, April 26th 2010, 4:00 AM

<snip>

Business people use derivatives all the time to plan better and limit risk. All in all, it's reasonably conservative. The companies that sell these insurance policies are financial firms, and they're the ones taking the risk on the price of oil, corn, etc. Everyone assumed the financial institutions were operating in a sophisticated and a prudent way.

But there were three problems:

Derivatives, unlike other financial assets, are not regulated. In the stock market, there are restrictions on how much you can borrow against your assets. Insurance companies also are regulated. They have to have enough assets to pay off their policyholders if there's a catastrophe. Because there are few rules or controls, no one monitored how much risk everyone was taking. There were few limitations on how many contracts anyone could buy and sell, and there was no way to check the risk in every contract.

The game got way out of control with bets so large they boggle the mind. Here's a frame of reference: The total value of all goods and services produced globally is estimated at $70 trillion. The value of all the financial assets in the world is about $150 trillion. The value of all the derivatives in the world is about $700 trillion. That means financial institutions are betting 10 times the value of the world's economic output and more than four times the value of the world's assets on these insurance policies.

This was not heating oil companies locking in the price of oil for their customers or farmers protecting the price of corn. This was major financial institutions playing fast and loose with money they did not have. When companies like Bear Stearns and Lehman Brothers collapsed, for every $1 of assets they held, they had about $30 of liabilities, most of which were related to some form of derivatives.

No one planned for unexpected events, like the mortgage crisis or a historic surge in oil prices. The contracts worked during normal times, but no one had priced in financial disasters.

<snip>

More: http://www.nydailynews.com/money/2010/04/26/2010-04-26_derivatives_for_dummies_thousands_have_bought_them_without_even_realizing_it.html

:nuke::nuke::nuke:

[Starry Messenger]

1. k&r

I definitely need this. I don't understand these exotic Wall Street products.

[WillyT]

2. This Might Be Helpful Too:

But... I had to download and install Abobe Reader X (the latest Adobe) to get it to open. It's the presskit from the movie 'Inside Job' and has some really useful info.

Link: http://www.sonyclassics.com/insidejob/_pdf/insidejob_presskit.pdf

:hi:

[Starry Messenger]

4. Oh thank you!

That looks very helpful. :thumbsup:

[salvorhardin]

5. Google's online Docs Viewer handles it fine... no need to install Adobe Reader

http://docs.google.com/viewer?url=http://www.sonyclassics.com/insidejob/_pdf/insidejob_presskit.pdf

[WillyT]

6. Thanks... Didn't Think Of That...

:blush:

:hi:

[AlabamaLibrul]

7. This might help too

http://www.psc.state.pa.us/corpfinance/derivatives.html

I used to have a youtube video that had nice little Flash graphics that explained it all, but not anymore.

[WillyT]

8. Thank You !!!

:hi:

[Starry Messenger]

10. Thank you AlabamaLibrul!

I wish someone would make another cartoon to explain it. It's sad that I need small words and pictures, but reading some of this gives me an ice cream headache.

[WillyT]

3. $700 Trillion, People...

:wtf:

[unkachuck]

9. "...major financial institutions playing fast and loose with money they did not have."

....I feel like the proverbial apple in the barrel....just because I don't believe in, nor do I voluntarily participate in, capitalism, I'm nevertheless being punished....

[WillyT]

11. That Wouldn't Happen To Be Alastair Sim, Would It ???

Best of the Scrooge's !!!

:hi:

[Poboy]

12. k&r

[charlie]

13. Aaaaaand they're at it again...

Nov. 24 (Bloomberg) -- Facebook Inc.’s surging valuation is spurring shareholders to slice and dice their stock, giving investors everywhere from Silicon Valley to Wall Street a chance to bet on the company.
...

By creating derivatives of the stock, the investment firms are helping Facebook keep its shareholder count at 499 or less, the maximum number a company can have before it has to disclose results to the public. They’re also potentially creating a new class of assets for investors, letting them tap fast-growing private companies like Twitter Inc., Zynga Game Network Inc. and LinkedIn Corp. -- all valued in the billions of dollars.
...

Because private-company financials are opaque, investors are buying based more on hype than actual knowledge about how the businesses are performing, Allen said.

“There’s less discipline than in the typical investment process,” he said. “Firms like Facebook may have stupendous growth, a successful exit someday, and yet the investors in some of these funds may have overpaid so much that the returns are small and maybe even negative”...

http://www.businessweek.com/news/2010-11-24/facebook-shares-get-chopped-up-into-derivatives-as-value-soars.html