Silicon Investor (SI) -- The First Internet Community

STOCKTALK

We've detected that you're using an ad content blocking browser plug-in or feature. Ads provide a critical source of revenue to the continued operation of Silicon Investor. We ask that you disable ad blocking while on Silicon Investor in the best interests of our community. If you are not using an ad blocker but are still receiving this message, make sure your browser's tracking protection is set to the 'standard' level.

Non-Tech : Derivatives: Darth Vader's Revenge -- Ignore unavailable to you. Want to Upgrade?

To: Worswick who wrote (908)	4/12/1999 11:18:00 AM
From: accountclosed	Read Replies (1) \| Respond to of 2794

Clark, thanks for posting and sharing your thoughts. I have a few preliminary reactions and have printed your post--so I may have more reactions after I digest your post more. My primary reaction is that the post of mine you linked was a summary post of what had been said on the thread over many posts. Henry had led the discussion, as he has much more knowledge and experience in this area than I do. I came to the thread with some ideas, but lots of questions. I was able to follow, I think, what Henry was saying, and restate the crux of the arguments. I believe that Henry's goal is to have a roundtable of discussion to continue the debate and not to say "This is how it is...enough said." So I, and I believe Henry, welcome your comments. I believe the equity markets are quite overvalued at this juncture and that derivatives can make market imbalances more explosive and dangerous. However, to the question is there systemic risk due to derivatives in the banking system?...I don't have evidence to that end. Your post sets your thoughts in perspective, but can you offer more detailed evidence of the risks that you see as truly threatening the stability of the banking system?

To: Worswick who wrote (908)	4/12/1999 12:35:00 PM
From: Henry Volquardsen	Read Replies (1) \| Respond to of 2794

Hi Clark, Now, I seriously believe that this market can go to 30,000 by 2010. Reading Barron's I see :) As I posted here, I believe, last week I tend to be naturally cautious towards equities. I have to pinch myself whenever I get bullish equities, currently my entire left side is black and blue. Just one comment regarding systemic risk. During our discussions on derivatives I have gotten the impression that a lot of people believe that I think there is no risk in the system. In fact I believe there is a lot of risk but that people are worrying about the wrong risks or misidentifying risk. People look at the very complex derivatives and assume they contain many risks that are not clearly defined and therefore difficult to completely hedge. There is some truth to that feeling. They then look at the volume numbers showing trillions of dollars of derivative exposure and make an intuitive leap that suggests all that exposure contains unhedgeable risk. That is not correct. The large majority of derivatives are pretty mundane straight forward stuff. Interest rate futures, currency forwards, plain vanilla interest rate swaps etc. The pricing risk on these products is pretty transparent and there will be no major surprise from this direction. The real risk, I believe, is in more mundane areas. One we have mentioned on occassion is leverage. The leverage becomes enormous. But even this is controlable to a degree. Banks have been paying a lot of attention to documenataion and clearing mechanisms. This won't prevent problems from excessive leverage but will help act like a circuit breaker and help prevent cascading failures. My own personal favorite for risk is operational risk. Executing these contracts can be somewhat intricate. If you don't have high quality, well motivated back office people it can cause problems. I have seen banks lose more money because of operational snafus than from having unidentified trading risk. You are correct that the pile of blocks is getting higher. And a fall is inevitable at some point. On the positive side the fall will always be to a higher level than the last fall. We do learn from our mistakes as we go along. There has been a lot of practical evidence over the last year to show the system has become pretty resilient. When the inevitable fall comes it will be from an unexpected direction. History does repeat but never verbatim. But we will not fall as far as some of the gloomier types hope.