Why is the derivative market so large? Why do firms put so much money into derivatives instead of the stock market or forex?
>>1275565
must be a reason
Most derivatives are bought on margin. You'd only pay 10% of what a derivative is actually worth. For example, if I had $100, I could:
>A: Buy Crude Oil worth $100, or
>B: Buy 10 oil futures (worth $100 each total) for just $10 each
This is a very, very basic example, but you get the idea. The big risk with derivatives is that if your future contract loses value, you need to pony up even more cash. So it's riskier than just buying stocks, but the payoffs can be immense.
Derivatives are also incredibly useful for hedging commodities, credit risk, IR risk, and more if you're a large company or bank.
Privatized gains, socialized risk
Can someone explain me how there is so much money in the derivatives market, look at pic related.
>>1275565
Literal 1000% gains from margin accounts.
Options have a higher profit potential, yet risks are contained. You can only lose how much you put in.
>>1276470
This pic is complete bullshit. Its just adding up all the notional amounts that are in the contract. Those amounts are never settled in full and the real value of the derivatives market is a tiny fraction of what that picture shows. If I enter into a 30 day interest rate swap with you, the notional amount might be $10 million, but the actual rate change will be tiny which means that maybe $1000 will actually change hands when the contract is settled.
Most derivatives are entered into for hedging purposes.
>>1276917
This
Notional value is misleading, especially when the vast majority of derivatives are swaps
>>1277068
>>1276917
what these guys said
the notional amount is generally the amount of cash you're attempting to hedge, and under no scenario is the entire notional amount owed to one party or another (or in very, very situations i've never heard of)
Generally, the notional is instead used as the base from which cash flows are calculated. For example, in a standard fixed-for-floating swap, w/ notional of 100 million, the actual cash changing hands on the fixed side will be 100 million * fixed rate * fraction of year elapsed, and 100 million * floating rate * fraction of year elapsed for the floating leg.
Depending on the way floating rates move during the duration of the swap contract, one party will end up paying less/more than the other, and thus profit/loss, but only by an amount much smaller than the overall notional
>>1277103
You are slightly wrong with that. Only the profit will be the cash amount that is changing hands. Everything else gets netted. Same goes for FRAs, equity swaps, futures, etc. Currency swaps can be different because parties might actually want delivery so the notional amount will be exchanged. Not sure how common that is though.
the simple answer is that in very many cases using derivatives is the easiest and cheapest way to do whatever it is youre trying to do in the market.
>>1275565
Little cost. little regulation. higher profits. smaller risk.
>>1276470
its an accounting trick.
a lot of the same money is counted multiple times. the derivatives should be stacked multiple times on one another. They can only be as large as the underlying.
If you take out a loan for 1k, you've got a +1k and -1k.
someone can take another bet on the -1k. and the insurer insures the -1k and the bet. then the insurance is reinsured making 6 accounting entries off that 1k.
only the last reinsurer is left holding the buck.
