Stay safe in the fast lane of finance

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The Independent Online
THANKS TO the collapse of Barings and other near disasters, the risks associated with "derivatives" are well known.

But it is one thing to realise the dangers of dabbling in exotic financial instruments that get their name from the fact that they are "derived" from underlying assets, such as shares, bonds, commodities and currencies, and quite another to be able to do much about it.

As Richard Thomson, former deputy City editor of the Independent on Sunday, points out in his new book, Apocalypse Roulette (Macmillan, pounds 20), various bodies have sought to alleviate the problem by amending guidelines and encouraging greater disclosure.

However, what can seem like "easy money" when the going is good can, when allied with such developments as the trend for even non-financial companies to see their treasury departments as cost centres, make it very difficult to resist an activity that can range from simply issuing stock options to give incentives to executives, to conjuring up increasingly obscure products.

But, says Mr Thomson, as it usually takes only a small down payment (the margin or premium) to purchase the obligation to buy or sell an asset at an agreed price and time, "any movement in the value of the underlying asset above or below the agreed price can produce immense profits or losses relative to the original down payment".

However, just as banks and financial institutions are becoming increasingly innovative in coming up with new products, so are companies being set up to help manage the risk associated with a business that, according to the book, has grown from just about nothing in the early 1970s to one worth $64,000bn (pounds 38,000bn) by 1996.

One of these is RiskCare, started in 1994 by three former JP Morgan derivatives specialists. It has grown at more than 100 per cent a year and numbers some of the best-known names in banking among its clients around the world.

The company last weekmarked Budget night (and St Patrick's Day) with the launch of a website designed to tell those people not already aware of the company's activities of its place "at the cutting edge of the investment banking industry". The site was developed by New Media Factory, a Cambridge- based consultancy that numbers Honda, Channel 5 and the on-line legal service Lexis-Nexis among its clients.

According to Paul Wilson, its head of marketing, RiskCare has achieved its leading position largely through a link with a Silicon Valley software company called Infinity. As the California business has recently been taken over by rival Sunguard, RiskCare, which now employs about 50 people of its own, has access to what Mr Wilson calls "probably the largest supplier of risk management to the banking industry".

Combining this expertise with RiskCare's special knowledge of the equity derivatives trade brings a special edge, he adds. It can offer what has been called the "safety belt" in a world where a crash like Barings can only too easily be repeated.

The link allows RiskCare to offer its service to financial institutions in a consistent way. "We're competing with other people on the quality of pricing models," said Mr Wilson. "So far, we're doing pretty well."

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