The derivatives market is, in a word, gigantic—often estimated at over $1 quadrillion on the high end. How can that be? Largely because there are numerous derivatives in existence, available on virtually every possible type of investment asset, including equities, commodities, bonds, and currency. Some market analysts even place the size of the market at more than 10 times that of the total world gross domestic product (GDP).
However, other researchers challenge these estimates, arguing the size of the derivatives market is vastly overstated.
Key Takeaways
- The derivatives market is said to be over $1 quadrillion dollars in notional value on the high end, but some analysts say the market is grossly overestimated.
- The higher end of the estimates includes the notional value of derivative contracts.
- There is a large difference in the notional value and actual netted value of derivatives—$600 trillion versus $12.4 trillion—as of 2021.
The Range of Estimates
Determining the actual size of the derivatives market depends on what a person considers part of the market and thus what figures go into the calculation. The larger estimates come from adding up the notional value of all available derivatives contracts. But some analysts argue that such a calculation doesn't reflect reality—that the notional value of a derivative contract's underlying assets, the financial instruments the derivative is pegged to, does not accurately represent the actual market value of derivative contracts based on those assets.
Derivatives are effectively binding contracts between parties that are bought or sold as bets on (or hedges against) the future price moves of whatever securities they're based on—hence, the name "derivative." So derivatives' prices are dependent on the prices of their underlying assets.
An example that illustrates the vast difference between notional value and actual market value can be found in popularly traded derivatives, such as interest rate swaps. The large principal amounts of the underlying interest rate instruments, although usually included in the calculation of total swaps value, never actually trade hands. The only money traded in an interest rate swap is the vastly smaller interest payment amounts—sums that are only a fraction of the principal amount.
Because the notional value of derivatives positions is so large, some regulators argue that they can pose a systemic threat to the global economy and financial system.
Current Derivatives Market
According to the most recent data from the Bank for International Settlements (BIS), for the second half of 2021, the total notional amounts outstanding for contracts in the derivatives market was an estimated $600 trillion, but the gross market value of all contracts is said to be significantly less: approximately $12.4 trillion in 2021.
The OTC derivatives market, on a notional value, hit its highest notional value level in 2014. Interest rate derivatives make up the majority of the OTC notional derivative value. The notional value of interest rate contracts recently hit $488 trillion. Meanwhile, the gross value of derivatives had been falling significantly between 2014 and 2016, then began rebounding through 2019, and has since begun to level off through 2022.
What Are Exchange-Traded Derivatives?
Exchange-traded derivatives are standardized contracts that trade on regulated exchanges. These include listed options and futures products. In general, the listed market is smaller in size than the over-the-counter (OTC) derivatives market.
Why Is the Gross Value of Derivatives Far Less than the Notional Value?
Many derivatives trades are executed as hedges against existing positions in order to minimize risk exposures. Because of this, the total (notional) amount of outstanding derivatives positions can be misleading. Say you have a $1 million stock portfolio and purchase put options on that same amount to hedge your downside risk. While the notional value of the put options is $1 million, the gross value is actually zero since it is exactly offset by the value of the stock portfolio.
What Are Examples of Derivatives?
The derivatives market is large and complex, comprising different types of contracts available on equity, fixed-income, forex, credit, interest rates, commodities, and other markets. These types of contracts include options (both vanilla calls and puts as well as exotic options), warrants, futures, forwards, and swaps.
The Bottom Line
When the actual market value of derivatives (rather than notional value) is the focus, the estimate of the size of the derivatives market changes dramatically. However, by any calculation, the derivatives market is quite sizable and significant in the overall picture of worldwide investments.
