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Today derivatives are the in thing…equity analyst and people who deal in options, futures and other derivatives are one of the highest paid people in the economy. And which sector in the economy is the biggest paymaster – Banking. Because of this banks are the most sought after recruiter at any B-School campus.
Somehow I have serious reservation about bank employees commanding a premium in the economy. I have a feeling that these high rates are due to high profitability of private sector bank which has less to do with their own efficiency and more to do with the capability and thought process of our policy makers and the RBI. Because banking is highly regulated industry with multiple laws and regulation the private banks that are there are enjoying super normal profit at the cost of public sector banks and economy as a whole. The interest rates are artificially high and interest rate spreads are blasphemous. Due to such high interest rates the ‘real’ economy has to suffer. Such high interest rates make the discounted cash flow statement look awful. Many more projects would have been implemented in the country if the interest rates have been realistic.
Due to the banking sector inefficiencies the ‘real’ economy has to face double blunt. First – costs are higher making project unviable and secondly good and talented people do not work for this sector as salaries are comparatively lower.
Don’t we see simple things? We all need proper roads, better water supply, regular power supply etc. There is unlimited demand for these things and we are trying to sell things which consumers don’t want to buy. We go on advertising, pushing the product till the time the consumer ‘perceives’ the utility of such goods and sell them. Why can’t we make and sell simple basic requirements of human beings?
Although I am a chartered Accountant and MBA from IIM (which is the best possible qualification to get a treasury job) I feel that day trading, Short Selling, Technical Analysis etc. are all wasteful activities on the part of human being at least in developing country like our where even the basic human needs are unsatisfied. May be I belong to the old school of thought like those of Peter Lynch and Warren Buffet who believed that options and future are not only bad but ought to be outlawed and done away with.
Well there has to be an upside to this. It can’t be that the whole world has gone mad. The best explanation I could find was Keynes solution to unemployment. “Dig holes to fill them up again”. First create a product which is not required, then employ thousand of people to sell the product, in the process providing them with disposable income and then make them ‘perceive’ the utility of the product and sell it to them. As the velocity of money increases, income of everybody increases, everybody consume more (‘perceived’ beneficial goods) and hence the standard of living increases. Is this how we can become a developed nation??
Wont't you agree that when market leaders like L&T (whose core business is engineering & construction)& almost the whole of banking sector (whose core business is lending) is making more profit from treasury operations rather than their core business there is some problem in the economy.
(Note: The author has reservations about the utility of Equity Derivatives only...The above comment is not for commodity derivative whose utility is acknowledged by the author)
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5 comments:
I know you are in process of reading Ian Rand's "Atlas Shrugged". I am not against anything new...and i am not asking to stop everything....i am saying why dont we do simple things...produce what is required by people rather than producing goods which only give them perceived benefits....
My logic is for developing contries like ours where lot can be done "profitably" to fulfill basic needs of people...why we waste effort creating demand when things in demand are under short supply...
My opposition to derivative is against stock derivatives and not commodity derivatives....and against banking sector...they are making super normal profit only because of useless regulations by govt....if they become efficient ...spreads will fall...interest rates will fall...and basic infrastructure projects will become more viable
It would be completely unjust on the equity derivatives if we start having doubts on their contribution in an economy. Let me give you a very simple example to make you realize the importance of this innovation. Suppose in an economy there are two people - Mr. A with net worth of Rs.100 mn and Mr.B with Networth of Rs.1 mn. Also assume that there is only one company Reliance whose output is defined to be the GDP of the country. Now to continue with the production Reliance needs Rs.80 mn. It will have to approach Mr. A for money. Else the economy will not run. This highlights the importance of capital markets. Now you don't expect Mr. A to be a philanthropist. He is into this deal only to make some profit and increase his networth. He is very skeptical, like what a normal investor would be, regarding the movement of equity price of Reliance. He would like someone to share the risk with him. At this juncture Mr. B will come into picture and enter into a derivative contract with Mr. A so that the risk is distributed. This gives tremendous relief to A. Reliance is happy because the relief to A signifies continuation of capital and thereby continuation of production. This helps the economy to function smoothly.
This was a very layman discussion on the advantage of equity derivatives. The other important advantages are creation of liquidity in the system by allowing participation of various players with small money, true price discovery etc.
I am tempted to accept your views on banking system because definitely we can observe a clear mismatch of theoretical objectives and objectives in practice.
But equity derivative definitely deserves the attention, which has been imparted.
All said and done, i believe when you are referring to "bank" employees, you essentially mean Foreign bank employees. Since foreign banks majory deal with providing derivative contratcs ( that too forex der) contracts in India, they are bound to pay high ( since they earn a bomb in these contracts, unfortunately i am one of theose equity analysts spoken about), but then there is no morality or skewed reasoning for this. Simple economics, large demand and short supply wil always push the prices high...so to me...sincere apologies...but this article is an exaggaration!
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