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Amaranth 'Highlights' Tumultuous Year

Amaranth's story had the most pervasive effect on the world of derivatives.

This column was originally published on Street Insight on Dec. 19 at 11:50 a.m. ET. It's being republished as a bonus for and readers. For more information about subscribing to Street Insight, please click here.

As we close out this year, I wanted to review some of the highlights in derivatives this year.


. The story with the most pervasive impact on the financial markets was that of hedge fund Amaranth.

However, while the headlines were concerned with Amaranth's failure, the real story was what the hedge fund did to the energy markets. The rise and fall of crude and natural gas prices can be linked to Amaranth. The fund participated in and perhaps exacerbated the massive speculation and volatility that took place in the energy futures and options markets. However, once the marginal speculator would no longer enter the market, the music stopped.

Energy volatility and prices collapsed, and Amaranth lost billions of dollars. Comparisons were made to

Long Term Capital Management

(LTCM). Once again, we saw that the collapse of a large derivative speculator, whether it was the Hunt Brothers, LTCM or Amaranth, did not create a systemic financial depression. The lesson was that the system works.


. Implied volatilities in the equity spiked when the spring correction took place but returned to lower levels as the year progressed (see the


chart below). The


stands at low levels on a historical basis. This reinforces my research which indicates that high levels of volatility are predictive of market bottoms and impending rallies but low levels of volatility are just low levels of volatility and have no predictive value. It is likely that the low levels of implied volatility are the result of hedge funds seeking to generate alpha as they constantly sell both put and call options.

Unfortunately this has been a losing formula as we have seen, with options selling on the

S&P 500

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and individual stocks like


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Sears Holdings



Goldman Sachs

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. Nevertheless, as long as there are levered players out there who need to outperform but have no other edge, it is likely that volatility will be an easy target.


. Derivatives exchanges were all the rage.

Crosstown rivals the

Chicago Mercantile Exchange

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and the

Board of Trade


agreed to merge after both stocks climbed to new highs. Futures, commodity and options volumes have soared, making these highly valuable properties big moneymakers.

Following in the wake of that mammoth derivative exchange merger was the IPO of the

New York Mercantile Exchange


in one of the hottest debuts for a stock in many years. Looking to the future, I expect that after the



completes its acquisition of

Euronext NV

it will next set its sights on a derivatives/commodities exchange as well as opportunities in the Far East. Perhaps it will try to kill two birds with one stone, if possible. My advice is to stay out of Thailand except for a vacation.


. Options backdating was the scourge for many companies, including one of my favorites,

Apple Computer

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, and a company that I divorced from my portfolio,

United Health

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. While I am upset that many companies have been embroiled in these scandals, what really irritates me is the inability of these companies to resolve the issues on a timely basis.

The U.S. has some of the finest finance, accounting and legal minds that the world has to offer. Why does it take so long to figure out the impact of the backdated options? This can easily be done with a spreadsheet and some junior accountants. It is a shame that a company needs more than one week to figure out the accounting impact of backdated options.


. The credit derivative market continues to grow in magnitude and importance for a wide variety of users. These users include the natural hedgers like lenders, speculators (like hedge funds) and the vendors (such as the investments banks). Expect the bears to rally around credit derivatives as the next market to achieve "bubble" status in the next year or two.

At the time of publication, Rothbort was long AAPL, GOOG, GS, NYX and SHLD, although positions can change at any time. Scott Rothbort has more than 20 years of experience in the financial services industry. In 2002, Rothbort founded LakeView Asset Management, LLC, a registered investment advisor based in Millburn, N.J., which offers customized individually managed separate accounts, including proprietary long/short strategies to its high net worth clientele. Immediately prior to that, Rothbort worked at Merrill Lynch for 10 years, where he was instrumental in building the global equity derivative business and managed the global equity swap business from its inception. Rothbort previously held international assignments in Tokyo, Hong Kong and London while working for Morgan Stanley and County NatWest Securities. Rothbort holds an MBA in finance and international business from the Stern School of Business of New York University and a BS in economics and accounting from the Wharton School of Business of the University of Pennsylvania. He is a Professor of Finance and the Chief Market Strategist for the Stillman School of Business of Seton Hall University. For more information about Scott Rothbort and LakeView Asset Management, LLC, visit the company's Web site at Scott appreciates your feedback; click here to send him an email.