Derivatives, also known as futures contracts, are financial instruments whose value is derived from an underlying asset (Sivy, 2013). They are bets between two parties with the payout based on the future value of the asset and can be derived from fluctuating factors such as interest rates, stock indexes, mortgages or even the weather (Rickards, 2012). Warren Buffet comments that “we view derivatives as time bombs, both for the individuals who trade them and for the economic system.” I agree with your statement because derivatives are complex and unstable. There is no telling when they might explode causing another financial crisis. Although there were numerous factors that contributed to the recent financial crisis, derivatives such as mortgage-backed securities (MBS) and collateralized debt obligations (CDOs) had a major impact on the events that occurred. . In the MBS market, the cash flows resulting from a mortgage are divided into different parts and then sent to those who can best manage the different risks at the best price. These parts are then repackaged into new financial instruments that are sold to investors (Rickards, 2012). The new portfolios were used to back collateralized debt obligations (CDOs) which were divided into tranches and sold to investors (Hull, 2011). These portfolios were guaranteed by the National Government Mortgage Association (GNMA) which allowed banks to lend money without worrying about borrowers defaulting on their loans. Banks were able to generate profits by lending their money. Risk-created securities allowed banks to make money without keeping risk on their balance sheets. As more loans were taken out to buy homes, home prices rose, and lenders had to introduce low teaser rates for…half the paper…long-term call options that would yield or expire worthless. Goldman never explained the transactions until after they were made and had to be hounded for information about the trades. Banks like JPMorgan and UBS have experienced the cost of what happens when you get into derivatives trading. The derivatives market is extremely complex and opaque. Since most transactions are made over the counter, it is difficult to determine the actual market value. The entire market is backed by a small amount of money, so if it were to collapse the losses could add up to more money than the world has. The financial crisis should have been a warning to reduce the use of derivatives and instead it grew. With this in mind, derivatives can be viewed as time bombs. It's only a matter of time before the next financial crisis is triggered by derivatives.