Risk and reward in the China derivatives market

The development of the Chinese derivatives industry has experienced various fluctuations since the early 1990s, much earlier than the Chinese authorities' first attempts at regulation. As innovative vehicles against financial uncertainty, derivatives products assist companies in containing the degree of risk inherent in various business activities, enhance leverage and improve a business' ability to plan ahead. Seeking to take advantage of these benefits, about 95% of the world's 500 largest companies use derivatives in one fashion or another. At the same time, however, derivatives can themselves be risky investments. For example, certain types of derivatives contracts have a tendency to be extremely complex. It is this complexity that frequently masks hidden hazards as even the most sophisticated clients do not always understand all the underlying risks implicit in a derivative product. Along with this, complexity has the ability to make financial accounting more difficult, creating greater opportunities for corporate malfeasance.

Due to these distinguishing characteristics, the regulation of derivatives products constitutes a spotlight in Chinese regulatory efforts during the past decade. Ironically, Chinese derivatives users have not yet been ready to dive into the international capital pool before it was hit by the 2008 global financial crisis. Now that countries are expecting an economic rebound after painful struggles, the Chinese regulatory authorities have set about promoting new policies for financial institutions to hedge their risks, especially risks from renminbi derivative transactions. Along with a series of regulatory notices and guidelines issued by the China Banking Regulatory Commission (CBRC), the People's Bank of China (PBOC), the State Administration of Foreign Exchange (Safe) and other relevant regulatory agencies, this marks another era for the Chinese derivatives markets.