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Should We Fear Derivatives?

Should We Fear Derivatives? Abstract This paper discusses the extent to which derivatives pose threats to firms and to the economy. After reviewing the derivatives markets and putting in perspective the various measures of the size of these markets, the paper shows who uses derivatives and why. The difficulties firms face in valuing derivatives portfolios are evaluated. Although academics pay much attention to no-arbitrage pricing results, the paper points out that there can be considerable subjectivity in the pricing of derivatives that do not have highly liquid markets. It is shown that the known risks of derivatives portfolios can generally be measured and managed well at the firm level. However, derivatives can create systemic risks when a market participant becomes excessively large relative to particular derivatives markets. Overall, the benefits of derivatives outweigh the potential threats. http://www.deepdyve.com/assets/images/DeepDyve-Logo-lg.png Journal of Economic Perspectives American Economic Association

Should We Fear Derivatives?

Stulz, René M
Journal of Economic Perspectives , Volume 18 (3) – Sep 1, 2004
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Publisher
American Economic Association
Copyright
Copyright © 2004 by the American Economic Association
Subject
Articles
ISSN
0895-3309
DOI
10.1257/0895330042162359
Publisher site
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Abstract

Abstract This paper discusses the extent to which derivatives pose threats to firms and to the economy. After reviewing the derivatives markets and putting in perspective the various measures of the size of these markets, the paper shows who uses derivatives and why. The difficulties firms face in valuing derivatives portfolios are evaluated. Although academics pay much attention to no-arbitrage pricing results, the paper points out that there can be considerable subjectivity in the pricing of derivatives that do not have highly liquid markets. It is shown that the known risks of derivatives portfolios can generally be measured and managed well at the firm level. However, derivatives can create systemic risks when a market participant becomes excessively large relative to particular derivatives markets. Overall, the benefits of derivatives outweigh the potential threats.

Journal

Journal of Economic Perspectives – American Economic Association

Published: Sep 1, 2004

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