Derivatives

Disadvantages of Derivatives

1

Despite the advantages of derivatives, there are significant drawbacks. Derivatives infamously played a significant role in the global financial crisis of 2007 to 2008.

2

A key problem with derivatives is that they are hard to value. This is because most derivatives are sensitive to the time to expiry of the contract, interest rates, and the cost of holding the underlying asset.

3

As derivatives have no intrinsic value, they are vulnerable to market risk. It is possible for the supply and demand of derivatives to rise and fall, regardless of what is happening with the underlying asset.

4

Derivatives are difficult to understand, which means that it is easy for inexperienced to make mistakes when using them. They are also expensive and increase the cost of investing for an investor.

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