Purposes and Criticism of Derivative markets

Purposes and Benefits
· Speculation - derive profit from changes in interest rates, equity markets, currency exchange rate, global supply and demand for commodities.
· Price Discovery
· Risk Management - help hedge against inflation and deflation, and generate returns that are not correlated with more traditional investments
· Improve market efficiency for the underlying asset
· Help reduce market transaction costs

Criticisms
· Sophistication - potential for huge gains and huge losses, appropriate for only sophisticated investors with a high tolerance for risk.
· Lifespan - as each day passes and the expiration date approaches, more and more "time" premium lose and the option's value decreases.
· Direction and market timing - investors must accurately predict the direction in which the market or index will move during a set period of time. A mistake here almost guarantees a substantial investment loss.
· Costs - The bid/ask spreads of more common derivatives such as options can be daunting.