A buffetting for derivatives

Warren Buffett’s outspoken condemnation of derivatives received wide press coverage in early March. Everyone recognises Buffett as a shrewd and experienced observer of the business world. David Rowe argues, however, that while his remarks contain some important hard truths, his extreme conclusions reflect the fact that a little knowledge is a dangerous thing

As has been widely publicised, Warren Buffett’s latest letter to stockholders condemned derivatives as “financial weapons of mass destruction, carrying dangers that, while now latent, are potentially lethal”.¹ He claims these instruments introduce little-understood systemic risks that could allow a problem at one firm to snowball into a major economic crisis.

Buffett’s strongest argument relates to situations where there is no real market for a contract and (although he doesn’t make this