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Wanted: Derivative-Savvy, C-Level Managers

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C-level executives with know-how about proper investing techniques and the limitations of applying derivative investments to a company portfolio are currently sought after by companies both large and small. Organizations, such as Fannie Mae, that have made the mistake of using funds in derivative investments that are not properly secured can cause astronomical problems, not just to the organizations themselves but to the entire economy. However, when used properly, derivatives are an excellent tool for reducing risk.

C-level executives who have experience using derivatives to secure a company’s portfolio are currently a hot commodity.

“Options trading volumes continue to soar this year, in large part because of increased use by asset managers. The one billion contract mark was reached this year after only 71 days of trading, while it took 99 days in 2007 to reach that level — meaning 2008 could be another record volume year for options,” reported Pensions and Investments.



According to data provided by an Options Industry Council study, 281.7 million options contracts were traded in April, a 43% increase from April 2007. Through the first four months of 2008, a total of 1.16 billion contracts changed hands, a 44.5% increase compared with the same period in 2007, according to Pensions and Investments.

The use of derivative markets to reduce risk or to balance a portfolio has been considered risky business by some — most firms, if they have used them at all, allocate only a small percentage of an investment plan to their use, but new methods of balancing put and call options are a welcome investment tool amidst the larger economic imbalance that markets around the globe are presently experiencing.

However, the use of derivative markets must be handled carefully. Money that is invested in them must be secure; otherwise, results could be disastrous, not just for the investor but for the entire market.

Fannie Mae’s recent reported losses of $2.19 billion in the first quarter of 2008 were attributed to “default-related costs, drops in the value of securities held by the company, and derivative contracts used to [reduce] interest-rate risks,” according to the Wall Street Journal.

Nonetheless, effective in April, Fannie Mae adopted so-called hedge accounting policies aimed at reducing the fluctuations in the value of its derivative contracts, the Wall Street Journal reported.

C-level executives who know a thing or two about the dynamics of the derivative market need to use the investment tool carefully and strategically; when used correctly, options and other derivatives such as futures will help all of us to weather the present economic storm.
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