Читать книгу Derivatives - Pirie Wendy L. - Страница 20

The history of financial markets is filled with extreme ups and downs, which are often called bubbles and crashes. Bubbles occur when prices rise for a long time and appear to exceed fundamental values. Crashes occur when prices fall rapidly. Although bubbles, if they truly exist, are troublesome, crashes are even more so because nearly everyone loses substantial wealth in a crash. A crash is then typically followed by a government study commissioned to find the causes of the crash. In the last 30 years, almost all such studies have implicated derivatives as having some role in causing the crash. Of course, because derivatives are widely used and involve a high degree of leverage, it is a given that they would be seen in a crash. It is unclear whether derivatives are the real culprit or just the proverbial smoking gun used by someone to do something wrong.

The two principal arguments against derivatives are that they are such speculative devices that they effectively permit legalized gambling and that they destabilize the financial system. Let us look at these points more closely.

6.1. Speculation and Gambling

As noted earlier, derivatives are frequently used to manage risk. In many contexts, this use involves hedging or laying off risk. Naturally, for hedging to work, there must be speculators. Someone must accept the risk. Derivatives markets are unquestionably attractive to speculators. All the benefits of derivatives draw speculators in large numbers, and indeed they should. The more speculators that participate in the market, the cheaper it is for hedgers to lay off risk. These speculators take the form of hedge funds and other professional traders who willingly accept risk that others need to shed. In recent years, the rapid growth of these types of investors has been alarming to some but almost surely has been beneficial for all investors.

Unfortunately, the general image of speculators is not a good one. Speculators are often thought to be short-term traders who attempt to exploit temporary inefficiencies, caring little about long-term fundamental values. The profits from short-term trading are almost always taxed more heavily than the profits from long-term trading, clearly targeting and in some sense punishing speculators. Speculators are thought to engage in price manipulation and to trade at extreme prices.20 All of this type of trading is viewed more or less as just a form of legalized gambling.

In most countries, gambling is a heavily regulated industry. In the United States, only certain states permit private industry to offer gambling. Many states operate gambling only through the public sector in the form of state-run lotteries. Many people view derivatives trading as merely a form of legalized and uncontrolled gambling.

Yet, there are notable differences between gambling and speculation. Gambling typically benefits only a limited number of participants and does not generally help society as a whole. But derivatives trading brings extensive benefits to financial markets, as explained earlier, and thus does benefit society as a whole. In short, the benefits of derivatives are broad, whereas the benefits of gambling are narrow.

Nonetheless, the argument that derivatives are a form of legalized gambling will continue to be made. Speculation and gambling are certainly both forms of financial risk taking, so these arguments are not completely off base. But insurance companies speculate on loss claims, mutual funds that invest in stocks speculate on the performance of companies, and entrepreneurs go up against tremendous odds to speculate on their own ability to create successful businesses. These so-called speculators are rarely criticized for engaging in a form of legalized gambling, and indeed entrepreneurs are praised as the backbone of the economy. Really, all investment is speculative. So, why is speculation viewed as such a bad thing by so many? The answer is unclear.

6.2. Destabilization and Systemic Risk

The arguments against speculation through derivatives often go a step further, claiming that it is not merely speculation or gambling per se but rather that it has destabilizing consequences. Opponents of derivatives claim that the very benefits of derivatives (low cost, low capital requirements, ease of going short) result in an excessive amount of speculative trading that brings instability to the market. They argue that speculators use large amounts of leverage, thereby subjecting themselves and their creditors to substantial risk if markets do not move in their hoped-for direction. Defaults by speculators can then lead to defaults by their creditors, their creditors’ creditors, and so on. These effects can, therefore, be systemic and reflect an epidemic contagion whereby instability can spread throughout markets and an economy, if not the entire world. Given that governments often end up bailing out some banks and insurance companies, society has expressed concern that the risk managed with derivatives must be controlled.

This argument is not without merit. Such effects occurred in the Long-Term Capital Management fiasco of 1998 and again in the financial crisis of 2008, in which derivatives, particularly credit default swaps, were widely used by many of the problem entities. Responses to such events typically take the course of calling for more rules and regulations restricting the use of derivatives, requiring more collateral and credit mitigation measures, backing up banks with more capital, and encouraging, if not requiring, OTC derivatives to be centrally cleared like exchange-traded derivatives.

In response, however, we should note that financial crises – including the South Sea and Mississippi bubbles and the stock market crash of 1929, as well as a handful of economic calamities of the 19th and 20th centuries – have existed since the dawn of capitalism. Some of these events preceded the era of modern derivatives markets, and others were completely unrelated to the use of derivatives. Some organizations, such as Orange County, California, in 1994–1995, have proved that derivatives are not required to take on excessive leverage and nearly bring the entity to ruin. Proponents of derivatives argue that derivatives are but one of many mechanisms through which excessive risk can be taken. Derivatives may seem dangerous, and they can be if misused, but there are many ways to take on leverage that look far less harmful but can be just as risky.

Another criticism of derivatives is simply their complexity. Many derivatives are extremely complex and require a high-level understanding of mathematics. The financial industry employs many mathematicians, physicists, and computer scientists. This single fact has made many distrust derivatives and the people who work on them. It is unclear why this reason has tarnished the reputation of the derivatives industry. Scientists work on complex problems in medicine and engineering without public distrust. One explanation probably lies in the fact that scientists create models of markets by using scientific principles that often fail. To a physicist modeling the movements of celestial bodies, the science is reliable and the physicist is unlikely to misapply the science. The same science applied to financial markets is far less reliable. Financial markets are driven by the actions of people who are not as consistent as the movements of celestial bodies. When financial models fail to work as they should, the scientists are often blamed for either building models that are too complex and unable to accurately capture financial reality or misusing those models, such as using poor estimates of inputs. And derivatives, being so widely used and heavily leveraged, are frequently in the center of it all.

EXAMPLE 6 Purposes and Controversies of Derivative Markets

1. Which of the following is not an advantage of derivative markets?

A. They are less volatile than spot markets.

B. They facilitate the allocation of risk in the market.

C. They incur lower transaction costs than spot markets.

2. Which of the following pieces of information is not conveyed by at least one type of derivative?

A. The volatility of the underlying.

B. The most widely used strategy of the underlying.

C. The price at which uncertainty in the underlying can be eliminated.

3. Which of the following responds to the criticism that derivatives can be destabilizing to the underlying market?

A. Market crashes and panics have occurred since long before derivatives existed.

B. Derivatives are sufficiently regulated that they cannot destabilize the spot market.

C. The transaction costs of derivatives are high enough to keep their use at a minimum level.

Solution to 1: A is correct. Derivative markets are not by nature more or less volatile than spot markets. They facilitate risk allocation by making it easier and less costly to transfer risk, and their transaction costs are lower than those of spot markets.

Solution to 2: B is correct. Options do convey the volatility of the underlying, and futures, forwards, and swaps convey the price at which uncertainty in the underlying can be eliminated. Derivatives do not convey any information about the use of the underlying in strategies.

Solution to 3: A is correct. Derivatives regulation is not more and is arguably less than spot market regulation, and the transaction costs of derivatives are not a deterrent to their use; in fact, derivatives are widely used. Market crashes and panics have a very long history, much longer than that of derivatives.

An important element of understanding and using derivatives is having a healthy respect for their power. Every day, we use chemicals, electricity, and fire without thinking about their dangers. We consume water and drive automobiles, both of which are statistically quite dangerous. Perhaps these risks are underappreciated, but it is more likely the case that most adults learn how to safely use chemicals, electricity, fire, water, and automobiles. Of course, there are exceptions, many of which are foolish, and foolishness is no stranger to the derivatives industry. The lesson here is that derivatives can make our financial lives better, but like chemicals, electricity, and all the rest, we need to know how to use them safely, which is why they are an important part of the CFA curriculum.

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Politicians and regulators have been especially critical of energy market speculators. Politicians, in particular, almost always blame rising oil prices on speculators, although credit is conspicuously absent for falling oil prices.