If equity markets are diverse, derivatives markets are even more so. Innovative risk management tools, a speculator's dream, is one of many expressions used to describe derivatives and for a long time in the late twentieth century many were not particularly complimentary! Strange that this should be the case given that the purpose of a derivative product is to transfer risk from a party wishing to remove a risk to a party willing to take on the risk with a view to making a profit. Derivatives bring stability to all types of markets, reducing the need to sell assets and commodities in falling markets by preventing losses when such a fall occurs. As long ago as the Middle Ages derivative-type transactions took place so the product is not new. In 1848 the derivative markets we see today really began when the Chicago Board of Trade was established and standardized contracts, called futures, for commodities were created.

The standardization of the terms of a transaction into a contract enabled that contract to be freely traded. If a farmer purchased a grain contract he could subsequently sell this to someone else and remove the obligation created by the trades by having an offsetting long and short position, which could be closed out. As contracts were for the delivery of grain and were a legally binding obligation to do so on both the buyer and the seller this was an important feature. So too was the guarantee offered by the clearing house of...