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Emerald Group Publishing Limited
Copyright © 2003, MCB UP Limited
Derivatives: bringing understanding to the doubts and the opportunities
Derivatives, like financial instruments generally, have the simplest of underlying concepts yet are seen as the most complex of things. Partly this is because they have fallen prey to the technologists, people who would manage to make a nut and a bolt seem an incomprehensible system. But partly this is also because banks and financial institutions are themselves very complex organizations invariably doing very complex things. It is no wonder that the systems they employ tend to be equally complex and often seen, even within the banks themselves, as arcane.
So we at Balance Sheet thought we would do our bit to make things, if only in a small way, simpler. Hence our special section on derivatives in this issue. It opens with an overview by Karl Sees, Director of Credit Risk Practice at Deloitte & Touche. His aim is simple. As he points out many organizations are deterred from using cutting edge techniques because such things are prohibitively expensive. So he takes a look at the sort of pragmatic approaches which organizations taking a less fancy route can follow. A reading of what Sees has to say could alter your approach to credit risk forever.
Then we have Kim Ferranti of SunGard Trading in Boston. Her case study of how the Ohio State Savings Bank revolutionized its approach to interest rate risk and brought its strategic decision-making processes up to the minute in the process is invaluable.
One of the other great issues in the world of derivatives is how you show them in your financial statements. Earlier this year the hearings held in London and Brussels by the International Accounting Standards Board might have convinced you that compared to derivatives the more obscure points of medieval theological arguments were simple by comparison. In this issue of Balance Sheet we bring you a team from the Department of Accountancy and Business Finance at the University of Dundee. They provide a clear guide through the great minefield of differing rules, both proposed and existing. They also, unusually in this field, provide a good assessment of why banks use this argument or that argument in the great discussions.
Back amongst our regulars in this issue is a fascinating theory being propounded by Bill Robinson, our resident one-man economic think-tank. He threads his way through the idea that some good may come from pensions deficits. See if you agree with his theory that holding bonds in your pension fund could mean a great opportunity to borrow your way to expansion. Robinson is keen to debate the issue and welcomes your thoughts via his e-mail address which you can find at the end of his, as usual, thought-provoking column.
Next we have a new columnist. Matthew Leitch has been working on the theory and practice of internal controls for some time. Having spent seven years devoting himself to the topic within the marbled halls of PricewaterhouseCoopers he has now made the break and set up as an independent consultant. He is enjoying his new freedom, as you will discover in the first of his columns for us. He suggests that we are in on the dawning of a new age of control without budgets. He suggests that it is time we stopped worrying so much about management process and instead turned our energies to just management.
Next we have another installment from the world of XBRL. In recent years Balance Sheet has kept a close eye on the development of XBRL, the language which will allow investors and users of accounts to effectively reformat a company's figures into the configurations which are of specific use to each individual investor and user. Mike Willis and Alison Jones provide a detailed view of where the great revolution is currently. They also, via a case study, show how Morgan Stanley is putting XBRL into practice.
Then Shawn Convery, Chairman and co-founder of Almonde, the rising star of the asset and liability management world, gives us a beguiling piece on how a foundation for robust performance management can keep banks competitive. He recognizes that the regulatory regimes personified by the Basle II Accord and by financial reporting standards like IAS39 are complicating things horribly. But he suggests that sustainable profitability is all about fundamental techniques and shows that concepts like funds transfer pricing and an economic value management framework can make all the difference to competitive edges.
Another difference to a competitive edge is exemplified by the firm of GMO Woolley which bestrides the world between Boston and London. It thrives, under the iconoclastic views of its founder, Jeremy Grantham, by seeking the opposite of whatever the currently fashionable trends are. Using access to their senior personnel and their current projections I have put together an article which encapsulates their thinking.
As is traditional at this time of the year we have access to the latest salary survey from Robert Walters, the global recruitment consultant, and show, via their charts, what is moving in the world of asset and liability management.
And lastly, bringing us to our senses to round off this issue, is the latest column from Michael Mainelli. Once again, a bit like GMO Woolley, he thrives on taking a contrary view. This time it is the rating agencies which are in his sights. "Who rates the rating agencies?" is his call. Mainelli has come up with another thought-provoking piece.
These are important ideas. The world of financial institutions, as the arguments over derivatives show, can turn arcane. What is needed is more understanding and analysis. We hope that this issue of Balance Sheet has provided exactly that.