The need for financial derivatives

Ej Lopez

Ej Lopez

Derivatives are financial instruments that monetary authorities, businessmen, risk takers seem not to have taken notice of and utilize exhaustively. Despite being aware of the immense benefit that could accrue because it is an instrument meant to spread out risks that inevitably accompany all financial obligations or undertakings, local financial authorities seem reluctant to have it liberally utilized.

Financial derivatives are based on interest rate movements, the value of which is based on the underlying asset of the financial instrument, so practically, you either earn from it or learn from it. Derivatives are useful in more complicated financial market structures and less for simple market like the Philippines. Although plain vanilla type of derivatives like forwards, options, swaps, spot and futures may be the type that can be made use of in the Philippines, it is said that the lack of information and orientation along this line, may be deemed highly risky if we insist ourselves on utilizing such highly complicated financial tool. Basic as it is, the Philippine market has not reached that phase that would require a highly sophisticated tool like financial derivatives. Authorities therefore conclude that it is plausible for the Philippine market not to recommend such a financial tool, because aside from the fact that local financial market is not that complex enough to require such mechanism, the use of derivatives may be dangerously abused that could lead to tragic financial consequences. Just take the cue from the more than century-year-old Barings Bank of England that collapsed because of the reckless speculative trading using derivatives by Nick Leeson, for which he earned a four-year prison term. Because of the desire to earn and recover what was desired in terms of profit and what was lost in investment, derivatives were wrongly used, and led to the collapse of one of England’s oldest banks.

Derivatives are primarily interest-rate based. It should not be geared for speculative purposes, otherwise you are resorting to gambling. It should be purported for spreading out the risks that accompanies all financial tools inherent in any investment or any other monetary mechanisms, like credit or financial obligations. Therefore, this instrument should be primarily geared for purposes of reducing if not eliminate the risks borne out of the interest rates, and not to speculate in order to earn, lest you double the risks that accompany interest rates of the underlying asset you are holding.

Derivatives are simply a hedging mechanism.

It is, however, prudent that sooner or later, financial derivatives be traded in the open market if we are to advance and become competitive in the international financial arena. With the unfolding of the Asean (Association of Southeast Asian Nations) Economic Cooperation by 2015, it becomes imperative for the country to ascend from our present economic and financial mediocrity, and show our real wares if we are to be the next economic tiger of Asia.

With Asean economic cooperation, it is consequential that the country as well as its economy and business community engage in more exotic transactions, because the unfolding of globalization inevitably exposes us to higher level of risks. This in turn would require approximation of the same that will necessitate a more sophisticated financial instrument like financial derivatives. The country can be off to a good start with the “legitimization” of over-the-counter transactions utilizing plain vanilla derivatives that are based on interest rate movement like swaps and forward type of transactions, and should be strictly regulated by the Bangko Sentral ng Pilipinas through its Monetary Board, in order to prevent reckless trading involving this highly sophisticated financial instrument.

Need for PNR rehabilitation
If we are to aspire for a better mass transport system that is worthy of a developed economy and could significantly reduce the inconvenience of the daily chaotic traffic jam, it should be the rehabilitation if not the development of Philippine railway system. Except for the inconvenience brought about by the commuters gridlock, especially on peak hours, it is the most economical both time and money wise. But the government has failed to take notice of this vital transport system medium.

Philippine National Railways after 120 years of operation, is a living testament to our economic advancement and should be given proper recognition, because in the many years of operations, it has proven to all and sundry of its worth as a major component and contribution to our modern civilization and economic development.

If only for its historical significance and contribution to our development, it should be given prompt attention because its many years of valuable service has transcended all classes of life, religion, culture and strata of the society. The planned rehabilitation should proceed without any hesitation and delay because peoples’ welfare and convenience is at stake.

With its rehabilitation (as planned next year), we expect an economy that will be more vibrant and investment friendly to complement our thrust of becoming an economic tiger in the not so distant future. Let’s get this going!

Post Script:
“Greetings to my brother Nandy Lopez who is based in Sydney, Australia, on the occasion of his birthday tomorrow, July 20, 2013, May you have more to come.”

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