Working Paper: NBER ID: w10574
Authors: Rene M. Stulz
Abstract: This paper discusses the extent to which derivatives pose threats to firms and to the economy. After reviewing the derivatives markets and putting in perspective the various measures of the size of these markets, the paper shows who uses derivatives and why. The difficulties firms face in valuing derivatives portfolios are evaluated. Although academics pay much attention to no-arbitrage pricing results, the paper points out that there can be considerable subjectivity in the pricing of derivatives that do not have highly liquid markets. It is shown that the known risks of derivatives portfolios can generally be measured and managed well at the firm level. However, derivatives can create systemic risks when a market participant becomes excessively large relative to particular derivatives markets. Overall, the benefits of derivatives outweigh the potential threats.
Keywords: No keywords provided
JEL Codes: G1; G13; G15; F30
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| size of market participants (D40) | systemic risk (E44) |
| firm-level risk management practices (G32) | effective use of derivatives (G13) |
| use of derivatives (G13) | firm welfare (L21) |