Risk and reward?

Chapter 1: Introduction

In any financial transaction, the biggest risk is that you make your own mistakes. Do a good job of product research, carefully review past charts, read extensive financial news about risk management, in short, fully understand the risks you take. Minimizing these risks is critical, as there are many other risks in the investment process that can trip you up and make you lose money.

Chapter 2: Default and Counterparty Risk

The good news is that the risk of counterparty defaults is now largely controlled by the Clearing House mechanism. This means that many derivative transactions (including holding securities until the maturity of the contract) can be safely settled with sufficient pre-provided collateral to avoid default.

Chapter 3: Insufficient Collateral

Institutional investors must open a margin account to engage in a variety of derivatives trading. This in itself acts as prepayment collateral to cover potential losses on the contract. The biggest danger is that your bet goes badly wrong and there isn't enough collateral to cover it. Again, this risk has now been mitigated by regulatory requirements to introduce clearing houses into most derivatives trading.

Chapter 4: Strengthening Supervision

Investing in derivatives is now more transparent than ever before. Many derivatives have come under scrutiny as a result of the global financial crisis and are now subject to tougher regulation.

The call for more products to be included in exchange trading and the introduction of clearing house mechanisms have further increased the security of the trading environment.

The biggest risk for retail investors is that they do not have sufficient understanding of the underlying assets or securities markets behind the derivatives they invest in.