Demystifying Derivatives Warren Edwardes 1 Demystifying Derivatives Warren Edwardes ceo, Delphi Risk Management Limited

Demystifying Derivatives Warren Edwardes 2 Author of Key financial instruments: –understanding and innovating in the world of derivatives

Demystifying Derivatives Warren Edwardes 3 Famous cases: Barings – founded in 1763 – crashed through lack of control of derivatives

Demystifying Derivatives Warren Edwardes 4 Famous cases: Equitable Life – founded in 1762 – crashed through not using derivatives to manage interest rate risk – boards have been successfully sued for not using derivatives to manage risk

Demystifying Derivatives Warren Edwardes 5 So what’s a derivative? a financial market derivative instrument is derived from other cash market instruments or other derivatives. the majority of financial instruments are not new instruments. They are merely combinations of derivatives and/or standard cash market instruments the building block approach

Demystifying Derivatives Warren Edwardes 6 Examples of derivatives - commodities orange juice futures

Demystifying Derivatives Warren Edwardes 7 Examples of derivatives - commodities Oil futures have liquid trading homogenous product

Demystifying Derivatives Warren Edwardes 8 Examples of derivatives - commodities Coffee a liquid market fairly standardised

Demystifying Derivatives Warren Edwardes 9 Examples of derivatives - commodities wine ?? Not homogeneous not customer needs driven Paris market unlikely to survive

Demystifying Derivatives Warren Edwardes 10 Examples of derivatives - commodities property / real estate ?? Not homogeneous FOX property market failed in 1991

Demystifying Derivatives Warren Edwardes 11 Examples of derivatives - shares? A share is an option on the assets of a firm

Demystifying Derivatives Warren Edwardes 12 Examples of derivatives - retail financial products foreign exchange notes

Demystifying Derivatives Warren Edwardes 13 Examples of derivatives - retail financial products fixed rate mortgages

Demystifying Derivatives Warren Edwardes 14 Examples of derivatives - retail financial products equity index linked savings

Demystifying Derivatives Warren Edwardes 15 Examples of derivatives - retail financial products Insurance?

Demystifying Derivatives Warren Edwardes 16 4 key financial building blocks spot –the now contract - like exchanging Pounds for Pesetas in the high street forward –you could buy your Euros in the forward market; payment and delivery next year. deposit –you could borrow money, buy the Euros now (spot) and deposit the Euros. option –Equitable Life gave interest rate guarantees - but didn’t manage the risk!

Demystifying Derivatives Warren Edwardes 17 Conclusion: what’s a derivative? a financial market derivative instrument is derived from other cash market instruments or other derivatives. the majority of financial instruments are not new instruments. They are merely combinations of derivatives and/or standard cash market instruments remember the building block approach

Demystifying Derivatives Warren Edwardes 18 And finally! Beware of insider trading underlying price manipulation –credit derivatives terrorists selling put options on American Airlines!

Demystifying Derivatives Warren Edwardes 19 Demystifying derivatives by Warren Edwardes