Risk optimization on the Derivatives Markets

The financial markets offer market participants many investment opportunities with different risks. In general, it can be assumed that if market participants choose alternatives with the same expected return, they will choose the alternative with the lowest extent of risk. However, as different investments involve different risks, it is in the market participants’ interest to achieve an optimal risk allocation.

To some extent, the risk can be reduced by buying various securities (diversification) on the spot market. However, with this kind of diversification, the market risk remains – the risk that occurs as a result of negative changes in the market (prices).

Derivatives markets offer a way to minimize/eliminate market risks as they allow investors to sell their risks partly or even completely to other investors. On derivatives markets, agreements on the future sale and purchase of spot market instruments are concluded. Especially options and futures are very efficient instruments for risk allocations as both instruments are traded on standardized futures exchanges.