In this news article, Trichet, the president of the European Union central bank warned that that instability of global financial markets can lead to ?re-pricing? of assets. He said that:
There is now such creativity of new and very sophisticated financial instruments . . . that we don’t know fully where the risks are located… We are trying to understand what is going on?but it is a big, big challenge.
As we mentioned in Spectre of deflation, the majority of global liquidity is made up of derivatives which is estimated to be valued at US$450 trillion. However, world GDP is estimated to be only US$46.66 trillion?only one-tenth the size of the value of derivatives!
With such massive quantity of derivatives sloshing around the global financial market, there is very little wonder that no one, not even governments or central banks can fully understand what is going on. Thus, opinions on derivatives are highly polarized?some think they are beneficial because they reduce risks by spreading it, whereas others see that they are currently too dangerous because they encouraged too much leverage and risk taking behaviour. Whichever the truth is, we believe that with all these absurdities in the financial world, it is more likely that risks are underestimated than overestimated.
Now is the time to reduce both debt and leverage. Start hedging.
Tags: derivatives, ECB, risks, Trichet
