The bug hunters cash in
Even the bugs in derivatives software can make you money if they're in a rival's system and you indulge in "version arbitrage". It's a small instance of the importance of having as large a range of models as possible in the program you use and knowing what others are using. James Essinger reports on what is involved in choosing software vendors and how their products can be used to make money and hedge against risk.
Anjam Ahmad, a derivatives analyst at LG Securities International a securities boutique specializing in Korean cash and derivatives instruments is quite certain of the value of derivatives software. "If you go into derivatives trading in an emerging market with state-of-the-art derivatives software, you're like a player from football's Premier League spending a Saturday afternoon in the third division," he says. "You're going to blow the competition away."
He explains that in an emerging derivatives market, whether plain vanilla or exotic options are being traded, there will be many traders who simply aren't able to price instruments accurately. This, he says, creates potentially lucrative arbitrage opportunities. "There are so many opportunities in emerging derivatives markets that I don't know why more traders don't explore these markets. But if they're going to do this, they need to have the right software already installed. Otherwise, they'd perform about as well as that Premier League player if he forgot to take his boots along."
The creativity banks employ when launching new types of exotic instruments is strictly mercenary. "Banks know there'll be a time-lag between their creation of an exotic and their customers' and counterparties' ability to price it effectively," says Ahmad.