Interesting charts from the OCC on the institutions holding derivatives and their exposure. Staggering risks that could blow off any day, the worst case is JP Morgan with an incredible 78.6 Trillion Dollar derivatives book [446 dollars in bets for every one dollar in equity] which means that the most they could expect to lose in any given day is $ 71 million only.
Here’s how the U.S. Office of the Comptroller of the Currency [OCC] states how large institutions manage their risk [pg. 8]:
“Banks control market risk in trading operations primarily by establishing limits against potential losses. Value at Risk (VaR) is a statistical measure that banks use to quantify the maximum expected loss, over a specified horizon and at a certain confidence level, in normal markets. It is important to emphasize that VaR is not the maximum potential loss; it provides a loss estimate at a specified confidence level. A VaR of $50 million at 99% confidence measured over one trading day, for example, indicates that a trading loss of greater than $50 million in the next day on that portfolio should occur only once in every 100 trading days under normal market conditions. Since VaR does not measure the maximum potential loss, banks stress test trading portfolios to assess the potential for loss beyond the VaR measure. Banks and supervisors have been working to expand the use of stress analyses to complement the VaR risk measurement process that is typically used when assessing a bank’s exposure to market risk……..[more]”