Risks/Problems of Derivative Markets in Bangladesh :

Starting one thing for the preliminary period is often required to face and overcome some
obstacles. Definitely there are some lacking and risks to ascertain a derivative market in
Bangladesh. For establishing a Derivatives Market in Bangladesh we need some logistic
supports.
At first, we need lots of people with professional knowledge for designing, monitoring and
controlling the market cause it is a new concept for the maximum people of our country. There is
no such types of market in Bangladesh because there is a few numbers of professionals and
experts. Few number of graduates we are having regarding this subject from our universities and
institutions who can work for this kind of project. In our country, we have lesser number of
researchers. For the establishment of a Derivative market, we have to collaborate the
professionals and the expert people which is very difficult and costly.
Secondly, investors are not too much educated who can understand Derivatives Market
environment and activities in our country. This will take time to be educated or understand the
market scenario. In this period a group of people may want to enjoy extra benefit which is
unwanted. There are some basic problems that contribute to derivatives’ negative image:
 Stories in the press of our country try to focus on the illegitimate abuse of derivatives
rather how they are used legitimately.
 Investors are misinformed perceptions and uninformed opinions.
 Improper suitability which is given to an investor’s resources and temperament.

Thirdly, for a Derivatives Market we need numerous investors which we are currently lacking
off. As a developing nation we do not have enough and proper investors who are having huge
amount of monetary reserve. So, Derivatives Market needs a strong number of investors whose
investment will run as blood of the market and keep the market alive.

On the other hand, when the investors are operating their business in the Derivative Market they
are ensure by the market that quality of the product will be good enough. In Bangladesh there are
some risks in this kind of matter or activities. It is told that some of derivatives are too
complicated. Investors also may not understand about some derivatives, such as futures and
options, by definition and contract markets. Besides these, derivatives are properly speculative
and highly leveraged. This objection is related with directly to the use vs. abuse problem. When
hedge vehicles are used as a preliminary investment, they become extremely risky business. The
main problem is that maximum of the investing people in our country may not appreciate that
when properly used, derivatives can actually mitigate risk, rather than exacerbate it. Besides,
political instability is another big issue for this kind business. Problems arise from political
instability can be a obstacle for Derivatives Market. There are many agricultural assets which
might remain unusable if it kept for longer period of time or might the cost increases for long
time preservation or stock.
Risks associated with Financial Derivative Market:

Risk is the factor which arises from uncertainty. It has a great impact on the financial
performance of the parties exposed to risks. Financial Engineering refers to the process of
developing financial derivative products with a view to hedging following risks and thereby
increasing the value of shareholder’s wealth:
1) Interest Rate Risk: Interest rate risk arises from the changes in interest rates. It affects
the firms/ organizations/ individuals borrowing or investing. Interest Rate changes
because of changes in demand for funds and supply of funds and depends structure of
interest rate, inflation rate etc. Financial Futures and Swaps are helpful to transfer interest
rate risk to the counter parties.

2) Exchange Rate Risk: Exchange rate risk arises from the changes in exchange rates. It
affects the financial institutions, MNCs, Organizations/Firms and Individuals who are
related to the exchanges of foreign currencies. Exchange rate changes for the reason
changing in differential growth in GDP, Inflation and other macro-economic parameters.
This risk can be sub-divided into transaction risk, where currency fluctuation affects the
proceeds from day to day transaction. On the other hand, translation risk affects the value
of assets, liabilities, revenue, costs and expenditure of MNCs.

3) Equity Risk: Equity risk arises from the unexpected movement of prices of equity
security. A financial institution risks reduce:
 when the prices decline and it has long positions due to agency-related or principal
trading.
 when prices rise and the institution has short positions.

4) Commodity Risk: Commodity risk arises from the changes in prices of commodities
ranges from soft to hard commodities. Normally, Banks, Financial Institutions,
Individuals, Brokers etc. are seen as regular participants to hedge, speculate or arbitrage
in this market.

5) Other Market Risk: There are many other market risks. Among these volatility risk one
of the most important risks. Volatility risk refers to the differences between expected and
actual volatility in prices. For a divergence results in gains or losses mainly depending on
the degree of underestimation or overestimation of volatility.

6) Liquidity Risk: Liquidity risk arises from likely inability to pay financial obligations as
and when they are due. Every new financial products which are involved to capital
commitments are carefully analyzed to evaluate their individual liquidity classifications
and their influence on overall liquidity. A most important component of this analysis
 involves the firm’s ability to hedge the instruments through direct offsets or through
trades in underlying debt or equity markets.

There are different sources of risks which are associated with financial derivative market. In fact,
all risks can be classified into two categories such as Product Market Risks and Capital Market
Risks. Financial Engineering has to take these categories of risks into consideration while
developing financial derivative products or re-structuring of existing products with more
desirable properties for hedging risk with a view to maximizing shareholder’s wealth.