Are derivatives the most danger financial instrument?

Now that we have moved onward from the 2008-2009 financial meltdown, investors are not only wary but also watching the legislation movements in Washington, D.C… Our financial instruments of the past seem to have become self-inflicted weapons. The topic of derivatives has come into play with numerous warnings about the dangers of continued greed that have caused our previous downfall.

To begin with, we need to understand why financial instruments derivatives are different than any of the other types of investment. It seems that a certain Texas Senator attached a last minute budget bill rider entitled the Commodities Futures Modernization Act of 2000. This allowed derivatives to be treated completely differently from all other financial products. It appears that the Senator pushed this through due to the fact that his wife was on the Enron Board of Directors. Derivatives, you see, are an excellent back door risk factor to lure in the investors.

There are a set of defined rules that govern stocks, bonds, options and futures. Now that the 2000 Act was in place, the derivatives which encompass: CDSs, CLOs, CDOs and CMOs, do not have to abide by any of the standard guidelines. The rules that have been set in place assist in the legality and liquidity of the standard financial instruments, to help to assure a good investment.

Here is a short list of guidelines that derivatives do NOT have to conform to:

Ability to trade on an exchange
Parties have enough capital to validate their ability to trade
The disclosure of any counter-party information
Required Capital reserves for future payments
Transparency of traded tools
Answer to a regulator that assures the guidelines are followed

In other words, as financial instruments derivatives have carte blanche to run rampant throughout the investment world, offering high risk and no guarantee situations for the investors. Both Wallstreet and the banking system have a financial investment in the derivatives market and any hint of change will be aggressively fought. While the percentage of derivatives is small compare to the overall trading commodities, the popularity of derivatives has increased over the last number of years.

Opponents that have a financial investment in these risky financial tools are armed and ready for the combat. President Obama sees through the derivatives loophole and has refused to sign off on the recent financial overhaul bill unless it includes legislation that will bring derivatives into the fold of governance. In reviewing the 2008 mortgage backed securities, derivatives played a large role in the meltdown. The current administration will not stand for large corporate businesses to have another enticing product to bring the economy down again.

Opponents of the veto will argue that both large and small businesses benefit from the derivatives market. They will tout numbers that show derivatives were just a portion of the meltdown. They will vehemently take a stand and spout out well-rehearsed (and well guided) terms regarding too much government control. If you look behind the curtain, you will see that they also have a vested interest in derivatives and don??™t want to see one of their few greed opportunities crushed.

The information supplied in this article is not to be considered as medical advice and is for educational purposes only.