DERIVATIVES, FUTURES & OPTIONS – DELIVERING VALUE OR CREATING INFLATIONARY PRESSURE, BETTING AND GAMBLING PLATFORM?
Derivatives and its accounting implications have recently drawn major controversy. ICAI mandated provisioning of mark to market (M2M) losses on derivatives or as an alternative allowed compliance to AS-30. The controversy is much larger. The quantum of losses on derivatives is unknown, the
participants have limited knowledge of this financial engineering and the Indian public and institutions have been taken for a ride by Multi National Financial Advisers assuring them fancy returns. In a meeting of Asian Development Bank, P. Chidambaram, Union Minister of Finance, has indicated the government intention to ban derivative trading in food articles. It is being alleged that the recent inflationary tendency in metal, oil, gold and other commodities worldwide are a result of speculative activity in the commodity stock exchanges and would require closer scrutiny. The Indian commodity market is primarily dealing in commodity futures and 99% of the trade is settled without any relationship with delivery of commodities. A section of arbitragers having deep pockets acquire huge quantities of commodities, store them and then sell the same in futures market, creating a pressure on supply. In certain cases, the quantum of positions taken by speculators and market makers in the futures market is huge and is many times as compared to actual supply or production. The Futures Market Commission needs substantial professionalism to improve regulatory practices.
Similarly in the equity derivative, the futures and options have fueled speculative tendency and have
increased volatility of the equity market. In the downfall of May 2006 and January, 2008, Lakhs of small investors burned their fingers by incurring substantial losses in the derivative segment. Equity derivative market also has no linkage with the actual delivery of the stocks and shares and all transactions are speculative. The hedging transactions are very limited and most of the derivatives trading is in open positions without any underlying stocks or transactions. Derivative trading was banned in India in early 60’s arising out of large scale manipulations commonly known as Mundra scam. The rsth&eanh market has turned into sophisticated futures – option market, but risk and issue are similar. The derivative market has instigated gambling and betting mind set in a large cross section of the society. A large number of large and mid-sized investors are investing their money in ok;nk cktkj i.e. derivative market. The government had banned lottery business in most parts of India to save the masses from the betting cult. We, the intellectual organ of the society need to examine this issue very closely and to see whether derivatives are delivering value by really providing hedge
mechanism for genuine transactions. Is it an effective mechanism for risk mitigation or management?
The intellectuals need to ponder on this crucial issue of “Is there a case to limit the derivative market only to those who have underlying delivery positions or should the government need to continue to permit open possession, betting and speculation and ultimately leading to gambling tendencies against the interest of the common man and societal values”. The complex issue of derivative in
foreign exchange market requires a separate debate to bring in more regulatory checks and balances by insisting on transparency in OTC transactions. The derivative market in foreign exchange is limited only to underlying actual positions by Reserve Bank of India. RBI as a regulator has played an important role in keeping the devil of derivative under control in India. The fall of World Com,Enron and several giants in US and now a complete disaster in the US economy contributed by the sub-prime are indications of the risk created by derivative. Most of the large financial services Companies including JP Morgan, Goldman Sach, Merrill Lynch, ICICI Bank, Citibank, Barclays, Lehman and various other leaders of the financial services sector have burned millions of dollars in the sub-prime derivatives. It is reported that due to its complex nature, Indian public sector banks could not understand the product too well; and their purchasing of derivative products from smart foreign banks without understanding the underlying risks have jeopardized the public money. As per a recent estimate, corporate India may be sitting on a $3 billion to $5 billion (Rs 12,000 crore - Rs 20,000 crore) notional loss on its exposure to foreign exchange derivatives, alone. Is India ready to face such a huge crisis, if it happens here? Or we need to bring risk management practices or controls
to obviate major financial losses to the common man endangering the economy?
A public debate is needed.
participants have limited knowledge of this financial engineering and the Indian public and institutions have been taken for a ride by Multi National Financial Advisers assuring them fancy returns. In a meeting of Asian Development Bank, P. Chidambaram, Union Minister of Finance, has indicated the government intention to ban derivative trading in food articles. It is being alleged that the recent inflationary tendency in metal, oil, gold and other commodities worldwide are a result of speculative activity in the commodity stock exchanges and would require closer scrutiny. The Indian commodity market is primarily dealing in commodity futures and 99% of the trade is settled without any relationship with delivery of commodities. A section of arbitragers having deep pockets acquire huge quantities of commodities, store them and then sell the same in futures market, creating a pressure on supply. In certain cases, the quantum of positions taken by speculators and market makers in the futures market is huge and is many times as compared to actual supply or production. The Futures Market Commission needs substantial professionalism to improve regulatory practices.
Similarly in the equity derivative, the futures and options have fueled speculative tendency and have
increased volatility of the equity market. In the downfall of May 2006 and January, 2008, Lakhs of small investors burned their fingers by incurring substantial losses in the derivative segment. Equity derivative market also has no linkage with the actual delivery of the stocks and shares and all transactions are speculative. The hedging transactions are very limited and most of the derivatives trading is in open positions without any underlying stocks or transactions. Derivative trading was banned in India in early 60’s arising out of large scale manipulations commonly known as Mundra scam. The rsth&eanh market has turned into sophisticated futures – option market, but risk and issue are similar. The derivative market has instigated gambling and betting mind set in a large cross section of the society. A large number of large and mid-sized investors are investing their money in ok;nk cktkj i.e. derivative market. The government had banned lottery business in most parts of India to save the masses from the betting cult. We, the intellectual organ of the society need to examine this issue very closely and to see whether derivatives are delivering value by really providing hedge
mechanism for genuine transactions. Is it an effective mechanism for risk mitigation or management?
The intellectuals need to ponder on this crucial issue of “Is there a case to limit the derivative market only to those who have underlying delivery positions or should the government need to continue to permit open possession, betting and speculation and ultimately leading to gambling tendencies against the interest of the common man and societal values”. The complex issue of derivative in
foreign exchange market requires a separate debate to bring in more regulatory checks and balances by insisting on transparency in OTC transactions. The derivative market in foreign exchange is limited only to underlying actual positions by Reserve Bank of India. RBI as a regulator has played an important role in keeping the devil of derivative under control in India. The fall of World Com,Enron and several giants in US and now a complete disaster in the US economy contributed by the sub-prime are indications of the risk created by derivative. Most of the large financial services Companies including JP Morgan, Goldman Sach, Merrill Lynch, ICICI Bank, Citibank, Barclays, Lehman and various other leaders of the financial services sector have burned millions of dollars in the sub-prime derivatives. It is reported that due to its complex nature, Indian public sector banks could not understand the product too well; and their purchasing of derivative products from smart foreign banks without understanding the underlying risks have jeopardized the public money. As per a recent estimate, corporate India may be sitting on a $3 billion to $5 billion (Rs 12,000 crore - Rs 20,000 crore) notional loss on its exposure to foreign exchange derivatives, alone. Is India ready to face such a huge crisis, if it happens here? Or we need to bring risk management practices or controls
to obviate major financial losses to the common man endangering the economy?
A public debate is needed.
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