Finance

Finance

Answer 1)

Investors are attracted to high risk investment in order to earn high profit. There are numerous high risk investments that have been developed in this era. These investments comprise of derivatives, global funds and Commodities and consider as a high risk investment, The reasons for this are that investor wants and looks for high return in small span of time and as we know that investing in high risk will result in high return. This action leads to gambling not investment.

Moreover, these investments re for those who have high level of risk tolerance so that they can cover up the losses. Many investors go for commodities product due to the reason that in recent years they have outperform the stock and bond market and their prices leads to enhance with respect to inflation. Moreover, their prices also increase in crisis. But investor ignores their impact if they did not perform above market. Like such of investment are not liquid and does not offer any cash flow like bond and stock does.

As far as derivatives products are concern they allow a good chance of risk coverage, the guarantees that the investor must deposit are paid moreover, investors are get benefits without tying up capital. Futures are very liquid and can make profits both when the stock market rises and when it falls (Gibson R., Zimmermann H., 1996).

Answer 2)

There are various risks that are associated with the exchange-traded derivatives.

Counterparty Risk

The issuance of derivative is through third party known as issuers and these third parties are listed companies or FIs. Any financial crisis or dilemma encounter by any of the FI can leads to reduce the credit rating or solvency problem due to collapse of the institution. This will impact on the value of derivatives and even huge loss of derivative value

Risk of Investment - Underlying Asset

Derivatives contingent on the underlying asset value which state that any fluctuation in the price of underlying assets will impact immediately price of derivatives.

Early Redemption & Potential Capital Loss Risk

The investors may loss the money no matter if they redeem early or terminate the product due to early redemption. The reason for this the invested amount is more than the amount receive by them. Hence, the consideration to the early redemption provision should be given importance and conceive how it will impact on the invested amount.

Interest Rate Risk

The interest rate effects directly to the value of the derivative products.

Leverage Risk

A small change or movement in Stock market can leads more forceful change in price of derivative. This has been termed as Leverage risk and higher this ratio higher will be the gearing ratio.

The brokers might use hedging instrument to minimize the risk of the investors. This is the common method used by broker which minimizes derivatives risk through the use of derivatives as hedging instruments versus other securities. It doesn't only reduce risk but also balance the investment of underlying security. For option contract, to be a contract holder can reduces ...