Thursday, September 3, 2009

potential benefits to financial institutions from the futures market

Trading in security futures opens up several potential advantages for financial institutions and for individual investors. The prospect of hedging against changes in security prices offers the potential for reducing risk and offsetting losses stemming from adverse movements in interest rates. Financial futures contracts can be especially beneficial for those financial institutions and individual investors heavily leveraged wit debt, which makes their net earning particularly sensitive to changes in interest rates. This is certainly true of major commercial banks, savings and loan associations, mutual savings banks, securities dealers, and mortgage banking institutions. These financial intermediaries experience marked fluctuations in net income with changes in the differential between interest rates on borrowed funds and returns on loans and other assets.
Moreover, if the future market does lead to a reduction of risk, this will enable many financial institutions to extend greater amounts of credit. The result could be a more efficient allocation of scare funds within each financial institution and within the financial system. Moreover, the futures markets provide for a freer flow of information concerning alternative uses and outlets for funds, permitting each financial institution to rapidly adjust its risk position to changes in interest rates and other costs. As noted by Stevens, the existence of a futures market may result in "increased market information, less search time, integration of markets and greater specialization of risk bearing."

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