A History of Derivative Markets Post Global Financial Crisis

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  • Topic: Derivatives market, Financial markets, Credit derivative
  • Pages : 16 (4957 words )
  • Download(s) : 150
  • Published : October 7, 2012
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DERIVATIVE PRODUCTS

TOPIC: PROVIDE A HISTORY OF DERIVATIVE MARKETS POST GLOBAL FINANCIAL CRISIS.

TABLE OF CONTENTS:

1. EXECUTIVE SUMMARY3
2. INTRODUCTION .4
3.THE PREVIOUS REGULATION SCHEM 5
4. THE NEED FOR AN ENFORCEMENT OF REGULATIONS6
5. GLOBAL REGULATORY PROPOSALS FOR OTC DERIVATIVES 7
6. AUSTRALIAN REGULATORY PROPOSALS FOR OTC DERIVATIVES ……………………. 10 7. PROPOSALS FOR REFORMS IN THE UNITE STATES…………………………………………… 11 8. ANALYSIS OF THE OBAMA PROPOSAL………………………………………………………………. 12 9. THE POTENTIAL IMPACT OF PROPOSED REGULATIONS ON END USER…………….. 14 10. CONCLUSION ……………………………………………………………………………….………………… 17 Appendix ………………………………………………………………………………………………………….. 18 References. …………………………………………………………………………………………………..…… 20

1. EXECUTIVE SUMMARY:
The recent Global Financial Crisis exposed weakness in the structure of the derivatives markets that had contributed to built-up systematic risk of large counterparty exposures between particular markets participants, which were not appropriate risk managed. While in some markets, certain derivatives asset classes continued to function well throughout the Global Financial Crisis, the GFC demonstrated the potential for contagion arising from the interconnection of derivatives market participants and limited transparency of overall counterparty credit risk exposures that precipitated a loss of confidence and market liquidity in time stress[1]. Derivatives can be classified as exchange-traded derivatives or over-the counter (OTC) derivatives. For exchange-traded derivatives, there are regulated exchanges, such as the Chicago Board Options Exchange, which act as intermediaries between the parties to the contract and provide orderly trading, efficiency, and transparency. With exchanged-traded derivatives, the risk of party defaulting on its commitment is limited due to the margin requirements imposed on participants. Regular options and futures are more likely to be traded over regulated exchanges, while exotic options, forwards and swaps are typically traded OTC. Over–the-counter derivatives are bilateral arrangements that can be tailored to meet the specific hedging requirements of the parties. This makes them particularly suited to more precisely hedging exposure to adverse market movements. Because OTC transactions are not conducted through regulated exchanges, they are not subject to the same reporting, standardisation, and margin requirements as exchange-traded derivatives[2]. This seems to enhance their popularity among investors. Therefore, OTC derivatives are subject to significant counterparty default risk. Hence, the OTC market is about thirty-times larger than the exchanged-traded derivatives market in terms of notional value.[3] As a result, throughout this assignment, we are going to focus on the regulation within the OTC derivatives markets.

2. INTRODUCTION
Derivatives are financial instruments for which value is “derived” from underlying asset. There are many different types of derivatives, including options, futures, forwards, swaps and so on. Examples of underlying assets are mortgages, stocks, bonds, indexes, interest rates, commodities and currency exchange rates[4]. Some derivatives are traded on an exchange, but most are over-the-counter (OTC) derivatives, or privately negotiated transactions between two counterparties. They are essential to the functioning of global financial markets and the economy because they are invaluable tools to help manage risk[5]. Derivatives are important tool used by companies to manage risk associated with their business. They can be used as a hedge against potential losses from unpredictable changes in commodities, interest rates, currencies and financial markets. As such, if used properly, derivatives are a good way of transferring risk. The Global Financial Crisis was the example of a global financial meltdown where, the type of “systematic risk”...
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