I want to let you in on a secret...
Wall Street doesn't make most of its money from the stock market.
While trading equities constitutes a large part of "big banking," if you were to add the value of all the stocks in the world it would only come out to $36.6 trillion.
Don't get me wrong, that's a big number. It's also one reason brokerage commissions have been the bread and butter of Wall Street firms since the New York Stock Exchange was founded in 1817.
But the truth is there's a much bigger market out there. This market, which is valued at over $790 trillion, has grown exponentially since the Securities and Exchange Commission deregulated it in the 1990s.
For instance, right now traders are betting $56,880 that the price of Apple (Nasdaq: AAPL) will be over $610 on March 22 -- 21% above its recent price of $506. Investors in this market are also betting over $874,000 that Google (Nasdaq:GOOG) will be trading at $1,300 -- or 26% above recent prices -- on the same day.
If they're right, those investments could be worth millions of dollars.
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But odds are they'll be wrong. While not impossible, it's highly doubtful that two blue-chip stocks with market caps in excess of $100 billion will make a 20%-plus move in two months.
The far more likely scenario is that the securities those investors bought will expire worthless, and the money they spent to make these bets will go straight into the banker's pockets. This process happens every day, and it's one of the primary methods Wall Street uses to extract huge profits from some of its most aggressive clients.
But the best part about this market is that it's open to everybody. You don't have to be a multi-million-dollar hedge fund manager or a Wall Street guru to take advantage of it. All you need is a brokerage account and a few thousand dollars to get started.
I'm talking about derivatives -- one of the most misunderstood markets in the financial community. Now, before you dismiss derivatives offhand, bear with me. It's important to understand what they are, how they work -- and more importantly, how they can work in your favor.
While derivatives might sound complicated, they're really quite simple.
By definition, a derivative is any security that derives its value from the performance of another underlying asset (such as a stock, bond or commodity). The value of the derivative depends on whether the underlying asset goes up or down in price.
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