It’s Halloween. So, I thought I would tell you a scary tale about… (cue the scary music)… financial derivatives.
After all, they’re scary, right?
That’s what the media say about financial derivatives: they are so scary and so hard to understand that they won’t even bother explaining financial derivatives to you.
What would you say if I told you that you use financial derivatives every time you drive a car?
Car insurance is a little like a financial derivative. You pay a little bit a month, or year, along with millions of other drivers. Now, the underlying value of that contract you have with the insurance company is worth thousands if you would damage your car. If you were in a wreck, you probably wouldn’t have built up thousands of dollars yet in your account to cover those costs, so the money to repair that damage would be pulled from the money other drivers and the insurance companies ability to invest that money.
But, you say, there are HUNDREDS OF TRILLIONS of dollars of these creepy, spooky financial derivatives out there. True. But, if my car insurance analogy holds, there are tens of millions of cars, and the insurance contracts are worth tens of thousands of dollars, so there are trillions of dollars in those financial derivatives, as well.
Now, where there are problems is when it comes to the handling of risks. Let’s say the government tells your insurance company that you have to insure drunk drivers who constantly use the cell phone. Well, your risk just went way up and there’s an increased chance that there will be so many wrecks that the insurance company won’t have enough money from all the monthly fees and all the invested assets to cover the cost of repairing those vehicles.
In other words, the financial derivatives went toxic.
And, that’s a very simplistic way to explain the fear over financial derivatives. The financial derivatives are just a tool and, if used and traded correctly, they are amazing tools that decrease risk and let more people do things like drive cars and own homes. Once the underlying risk of the financial derivative is increased… then there are problems.
Whether it’s trading stocks or trading financial derivatives, Online Investing AI is developing automated trading systems that can deliver high returns and low risk levels. We believe that all assets are just tools and that if approached with sufficiently advanced technology that doesn’t act on greed–or fear–more people can get richer sooner.
Oh. And Happy Halloween!
Accelerating Technology, Business Strategy, Investing, Money, Online Investing AI
financial derivatives, halloween
is one of my favorite financial books of all time. It's an allegory about a guy who has a terrible job, and how he overcomes challenges to achieve his dreams.
