Nobody downloaded yet

The Role of the Derivatives in Credit Default - Essay Example

Comments (0) Cite this document
Summary
Name Law Course Institution Date 1) The role played by derivatives in credit default and implications raised by derivatives users if derivatives are misused? Derivatives are known as financial contracts whose price is derived from that of an underlying item like security, futures, warrants and convertible bonds…
Download full paperFile format: .doc, available for editing
GRAB THE BEST PAPER98.2% of users find it useful
The Role of the Derivatives in Credit Default
Read TextPreview

Extract of sample "The Role of the Derivatives in Credit Default"

Download file to see previous pages This is known as the ability of derivatives to soar 100 percent within a few days, when the security has risen to by a small percent of 10 percent. Derivatives are also used to control large blocks of stocks for a much lesser sum that would be required for the outright purchase (Carter, 2009, p. 67). This means that derivatives give people the ability to control and manage risk. As supervisors of banking, the central bank are concerned that commercial banks’ participation in derivatives markets could lead to a major bank default that could be worsen and lead to the disruption of financial markets. Default on any derivative or financial contract involves the failure by one party to the contract to make a payment under the required contract agreements. For derivatives, default occurs when two conditions are met in a simultaneous manner. In this case, a party to the contract is in debt under the contract terms, and the counterparty cannot obtain the money within the given period (Hanson, 2010, p. 58). No regulation of the derivatives can work well if there is no strong mandatory mechanism that would expose raw data to the regulators in policing the market for misuse. Credit derivatives are the causative factors that led to the overwhelmed financial markets that led to the recession. Due to deposit insurance and the reluctance of the government to let the banks, the credit risk is transferred to the government which is the turned onto the tax payers. The bank depositors who are the main stake holders have no incentive in monitoring the banks’ risk exposure. This move will allow the banks to load up on risk without attracting additional capital. This means that unregulated credit derivatives will offer unprecedented leverage. Since finance markets are a true reflection of a true economy, the misuses of the derivatives can have a great impact on it (Teslik, 2009, p. 60). The credit defaults have played a major role in the financial problems that people are faced with. The high volatility and turbulence that financial markets experienced is as a result of their misuse of derivative security. Banks that have been faced with lack of operating capital have been faced with the wrath of fluctuating values in their debt obligation, mortgage backed securities and credit default swaps. 2) What lessons should be taken by the UK’s financial sector and regulators in relation to 'Bear Stearns’ and other high profile cases? An important lesson that has been learned is the difference between short term and long term liability has been neglected or has been given insufficient attention by regulators. With reference to the liability structure of the U.S banking system, there is a clear majority of short term debts. This was taken in forms of wholesale or deposit funding which included commercial paper or repurchase agreements. Whole sale funding runs were also witnessed through refusal or commercial paper or repo creditors to roll over their loans. This played a major role in the demise Bear Stearns, Northern Rock and Lehman Brother among other higher profile failure cases. The UK’s financial sector should be able to regulate debt maturity (Kirkpatrick, 2009, p. 78). Another lesson that was learned was that the fire scale risk associated with excessive short term funding does not only originate from depositories, but rather, a financial intermediary with a combination of financing structure and asset choice which may exacerbate a ...Download file to see next pagesRead More
Cite this document
  • APA
  • MLA
  • CHICAGO
(“The Role of the Derivatives in Credit Default Essay”, n.d.)
The Role of the Derivatives in Credit Default Essay. Retrieved from https://studentshare.org/law/1447119-critically-consider-a-the-role-played-by
(The Role of the Derivatives in Credit Default Essay)
The Role of the Derivatives in Credit Default Essay. https://studentshare.org/law/1447119-critically-consider-a-the-role-played-by.
“The Role of the Derivatives in Credit Default Essay”, n.d. https://studentshare.org/law/1447119-critically-consider-a-the-role-played-by.
  • Cited: 0 times
Comments (0)
Click to create a comment or rate a document

CHECK THESE SAMPLES OF The Role of the Derivatives in Credit Default

A Credit Default Swap (CDS)

...of these past events, the impact of credit spreads on bond and stock prices is significant and should be analyzed by financial economists, investors and regulators so as to understand the markets that are affected by credit risk. It is important to not the fact that credit derivatives such as Credit Default Swaps are over-the-counter agreements therefore the parties to the contract can freely negotiate the terms and conditions. This means the role of liquidity in pricing of these securities may be different from that of bond, equity and stock. Credit spreads of bonds issued and the prices of...
9 Pages(2250 words)Coursework

Credit Derivatives

... played a major role and were the most significant contributors of the historical financial meltdown of 2007-2008. (www.fdic.gov) REFERENCES: Choudry Moorad, 2004 An introduction to credit derivatives. Butterworth-heinmann title Pxi Fdic.gov credit derivatives and the default risk retrieved on 26th April 2011 http://www.fdic.gov/bank/credit derivatives.php financial-edu.com history of credit derivatives retrieved on 26th April 2011 http://www.financial-edu.com/history of credit derivatives.php Ranciere G Romain, 2002 credit derivatives in emerging markets International Monetary fund policy discussion paper markets.... ?Running Head: CREDIT DERIVATIVES CREDIT DERIVATIVES Bonds...
4 Pages(1000 words)Essay

Credit-Default Swaps and the Fate of AIG

...default swaps has led to the fall of many organizations like the AIG due to mismanagement of the default mechanisms. References Boberski, D. (2009). CDS Delivery Option: Better Pricing of Credit Default Swaps. Hoboken: John Wiley & Sons. Friedman, J. (2011). What caused the financial crisis. Philadelphia, Pa: University of Pennsylvania Press. Nier, E. W. (2009). Financial stability frameworks and the role of central banks: Lessons from the crisis. Washington, DC: Internat. Monetary Fund. Tavakoli, J. M. (2001). Credit derivatives: Guide to instruments and applications. New York: Wiley. Perez, V. (2011)....
3 Pages(750 words)Essay

Derivatives

..., the derivative transactions that had so far been conducted via the over-the-counter totaled to approximately $700 trillion while the amount of transaction conducted via the exchanges totaled to approximately $83 trillion. However, Liu and Lejot (2013) lamented that these figures are on the upside and they do not represent the true market value as well as the associated credit risk that investors face. Nevertheless, even when the figures are scaled down they would still represent large sums of money that even surpass the total expenditure of the United States government which was at $3.5 trillion in the past year and even the current value of US stock market, which stands at $23 trillion (Liu and Lejot,...
7 Pages(1750 words)Literature review

Credit Default Swaps and Their Role in the 2008 Global Financial Crisis

...in the year 2000 and exploded in the year 2008. This paper is a critical exploration of the role of the Credit Default Swaps in the 2008 Global Financial Crisis. It also focuses on other major causes of the financial crisis, particularly the inappropriate risk management practices adopted by financial institutions. Credit Default Swaps were some of the complex financial instruments that were used in the wrong way. People invested in them instead of serving the purpose they were meant for. They contributed to the financial crisis, but they were not the sole cause. Banks as well adopted the wrong investment vehicles that increased their potential risks....
40 Pages(10000 words)Essay

The Credit Default Swap of Central East European Countries

...in entailment of equity investment is high in Central European countries compared to Countries of Western Europe and this is mainly due to factors such as weak rule of the governments, difficult and complicated financial accounts of organizations, currency risks, transparent rule in government institutions etc. Economic performance of each country is unique and therefore equity risk premium is different for each country.The currency board is the controller of interest rates and provides financial stability to the country. The CDS premium is a powerful instrument in the credit derivatives market because it is a direct tool for measuring the credit default spreads. CDS...
12 Pages(3000 words)Essay

Default Unnecessary

... basics pose myriad challenges, currently there are default indicators. Therefore, certain reactions have been put into consideration. Among them is the number of times the sovereign episodes have resulted to defaults. There is also derivation of actual interest bill. In addition, there is the maintenance of government liability structures. This means that both the advanced and emerging economies are brought into equilibrium. Work cited Cottarelli, Carlo. Default in todays advanced economies: unnecessary, undesirable, and unlikely. Washington, DC: International Monetary Fund Publishers, 2010. Print  ... Task: Default Unnecessary Synopsis Document Setting...
2 Pages(500 words)Essay

Derivatives

...Question on Derivatives By Insert Presented to Location Due Question One: what liquid futures contract you has chosen; how you would implement the hedge and a brief account of the risks involved. I would use bond futures contracts as they are commonly used by many investors for hedging, directional trading, and arbitrage. As described in the article by TMX group, hedging is composed of a number of operations that seek to minimize or simply eliminate a number of risks resulting from fluctuations of the original bond. In implementing the hedge I would use the buy positions or the long positions that could be covered by a sell position in the futures. Then, I would look for greater correlations between the buy and sell...
2 Pages(500 words)Essay

Default Determination

...Default termination or termination by default is the standard contract clause which enables/gives the the prevalent rights to terminate unilaterally the contractor if the contractor fails to perform or work according to the terms given/ agreed in the contract. In this scenario, the contractor is generally not entitled to any payment for the uncompleted part of the contract and may in fact be liable in return for the repayment of any money that that was paid to him or her in advance, liquidated and any other damages, and any excess costs incurred by the customer in completing the contract under a new contractor. This paper thus is going to handle and talk about the termination by default...
4 Pages(1000 words)Term Paper

Derivatives

...Derivatives Introduction Derivatives are the securities whose values or prices are totally dependent on one or more than one underlying entities. Those underlying entities are maybe index, assets and interest rates. It is a type of financial contract. It is more of a precautionary measure to secure the money against the volatile nature of the international business. Over the years usages of the derivatives have increased a lot. To protect their moneys various organizations and government agencies are using these contracts. Discussion Explain how derivatives can be used There are many numbers of derivatives with the help of those...
3 Pages(750 words)Assignment
sponsored ads
We use cookies to create the best experience for you. Keep on browsing if you are OK with that, or find out how to manage cookies.

Let us find you another Essay on topic The Role of the Derivatives in Credit Default for FREE!

Contact Us