Leaderboard

I should have explained in my story, that the question of selling my property now arises because half of the $400 rent goes in costs. That now includes the Vic government land tax, rates, services etc etc. costs were much lower a couple of years ago. I will let you know what I decide, has to be decided quickly if the lease is to be renewed.

A derivative is a financial instrument that derives its value from an underlying financial instrument. The most commonly known one is an option - the right - but not the obligation - to buy or sell a financial instrument at some future time for an agreed (strike) price. Depending on whether the option is on the buy or sell side, it will rise and fall with the underlying instrument - typically shares for retail investors. What your describing could be a derivative, but is more likely the credit multiplier effect which exists in any economy that facilitates lending. What is happening is collateral, in the form of future promised cash flows, is being put up as collateral for borrowing money. This is a form of leveraged finance and has leverage risk. It can be a derivative (such as a repurchase agreement, commonly known as a repo), or it could be a bog standard loan sold off in the loan markets. Or it could be an asset backed security (ABS), which package loans into an asset pool and sell cash bonds off the back of them. They are not technically derivatives, but collateralised loans. Although the structures are different, they are all forms of financing lending. A repo, is considered a securities financing transaction as it offers up a financial security (e.g. bond, share, exchange traded commodity derivative) and receives money in return; at the end of the agreement, the security is returned to the borrower, and the cash is returned to the lender. Different structures have different rules and problems associated with them. ABS is the riskiest to the economy, however, Lehmans failed by gaming the repo market in what was called repo105. (https://en.wikipedia.org/wiki/Repo_105). It used short dated repo agreements to get risky assets off its balance sheet and have case in the bank at reporting times.. was the gist of it, anyway. But that was a fraud as opposed to market operation. The value of USD $610tn in OTC derivatves was a couple of years ago from memory. This oft quoted value, whilst true, is the notional value of the market which bears little semblance to the amount of the actual value of the market, which as I recall was arounf $20tn. And that is because almost all derivatives are a future swap of cash flows based on some financial measure. For example, an FX forward is where two counterparties agree to swap foreign currency at some pre-agreed exchange rate, sometime in the future. For example, I may enter into a forward rate fx contract with you, where I give you $100,000 AUD, at .63 USD. On that future daye, I will give you $100,000USD and you will give me $63,000 USD. The notional in USD is $63,000, but that is not the value of the trade. The reason is that is not the value of the trade is because if I default on the $100,000, you don't give me anything. You keep your $63,000 and have lost nothing. Well, sort of.. We measue the loss in what is called xva and credit risk, as well as the difference in the spot price and the forward price. If the AUD was up a a lot, say it went to .68, that would mean you could have converted yout $100,000 received from me into $68,000 USD; you have lost $5,000 on my default. Of course, it the AUD went down, you are ahead of th curve because it means you don't have to worry about taking less from my $100K then you gave me. The true value of the derivative is calculateed daily with discounted net present valuation calculations well into the future. Some derivatives can go on for 50 or so years.. But we tend to value them on 1 day, 3 day, 5 day, 7 day/2week, month, 3 month, 6 moonth, 12 month, 3 year, 5 year, 7 year, 5 year and 30 year basis - depending on how long they have to run. The maths is complex, and I don't pretend to uinderstand 1/10th of it. The chaining of loans as collateral is an oversimplification of the issue, especially in the credit multiplier sense. Yes, bonds can be reused as collateral. But, a) they have haircuts to their value applied; b) wrong way risk further recudes the value we can take, and c) there is usually some economic value/output added along each link. And, at least in Europe, there are tight controls on this and big fines for not complying (reporting is mandatory). So far, these seem to have acted as a strong deterrent.. I know from experience how seriously we take compliance and only a buy side firm, Aviva has had a breach worth fining - and that was for the breach of reporting rather than collateral reuse (we self-declare breaches of reporting and fix them very quickly).