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Depending on the derivative, the notional value can mean very different things.

For a CDS, the notional value is the amount "insured". Therefore the exposure can quickly become 100% of notional if the probability of default becomes sufficiently large. However, the exposure stays capped at 100%. The same is true for any of the whole zoo of so-called digital or binary options.

For equity, commodity, FX, etc, forwards and simple derivaties based on them, the exposure can easily be of the order of 100% of notional but it can vary widely. The reason is that the exposure is basically the ratio of the momentary forward price to the strike price of the derivative. The prices are of the same order and the notional is based on the strike price times some amount of "units".

For interest rate (or inflation) derivatives exposures as a fraction of notional can be of the order of the interest rates times the duration of the derivative. This means exposures are typically tens to hundreds of times smaller, relative to notional, for interest rate derivatives than most other derivatives.

There are extremely toxic derivatives that can quickly run up the equivalent of 20% interest rates and higher if things go sour, which they basically did in 2009 with interest rates plunging from 5% to near zero.

So the takeaway point is that "vanilla"-ish interest rate swaps which are by far the bulk of the derivatives market the actual exposures may be a few percent of notional. But for other derivatives exposures can plausibly be of the order of 100% of notional.

However, given a world GDP of 60 trillion and a money velocity of twelve (monthly turnover of the money stock) you can assume that circulating cash is about 5 trillion, globally. Even 1% of derivative notional is more than all the world's circulating cash put together. Which is why the increasing push to fully collateralise all derivatives in cash is essentially a black hole that will eat all the liquidity central banks care to throw at the banks without leaving any money to circulate. It's hugely deflationary.

Wikipedia claims

According to the Bank for International Settlements, the total outstanding notional amount is US$684 trillion (as of June 2008).[10] Of this total notional amount, 67% are interest rate contracts, 8% are credit default swaps (CDS), 9% are foreign exchange contracts, 2% are commodity contracts, 1% are equity contracts, and 12% are other.
ISDA claims
The notional amount of interest rate derivatives outstanding was $434.1 trillion at mid-year 2010 ...

The notional amount outstanding of credit default swaps (CDS) was $26.3 trillion at mid-year 2010 ...

Notional amounts of equity derivatives fell 5.7 percent to $6.4 trillion ...

Let's assume a 1% exposure on interest rate derivatives and 100% on the rest. This means the exposure was about 36 trillion in mid-2010, and the 2008 data give an exposure of about 230 trillion. Essentially, the market for non-interest-rate derivatives has shrunk massively in the past 3 years, which has cut maybe a third off the total notional but about 85% of the exposure. However, the remaining exposure is still about 50% of global GDP.

Economics is politics by other means
by Migeru (migeru at eurotrib dot com) on Wed Oct 19th, 2011 at 03:12:47 PM EST
[ Parent ]
Thank you.

I need some time to sit down and contemplate the futility of existence the practical consequences.

She believed in nothing; only her skepticism kept her from being an atheist. -- Jean-Paul Sartre

by ATinNM on Wed Oct 19th, 2011 at 03:30:24 PM EST
[ Parent ]

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