The financial and popular media report almost daily on the volatility of securities market prices. Yet, many people continue to buy securities to hedge against or speculate on certain risks. People can also buy or sell derivatives to hedge against or speculate on fluctuations in securities prices. This Article discusses three regulatory policy implications of utilizing derivatives markets to reallocate the bearing of securities price risks. First, if there are too few non-redundant derivative markets, a competitive market equilibrium allocation of securities price risks is typically constrained Pareto inefficient. This financial economic result means that for typical economies, a regulator can in principle improve social welfare by financial market interventions. Second, introducing some but not enough non-redundant derivatives markets has indeterminate normative consequences for the allocation of securities price risks. This financial economic result means that for typical economies, introducing a new derivative market can improve, worsen, or have no effect on the welfare of consumers and investors. Finally, government regulation might not improve the social allocation of securities price risks because of informational or political economy obstacles. This financial economic result means that for typical economies, the ability of regulatory intervention may be constrained by limited knowledge.
Peter H. Huang,
Securities Price Risks and Financial Derivative Markets
Nw. J. Int'l L. & Bus.