Don't humans also make similar large scale mistakes? Merill Lynch's infamous London whale comes to mind. Also. I could be wrong but aren't most of derivatives a zero sum game: don't I have to lose money on my puts for you to make money on your calls ? Didn't so many people lose money on securities because they misunderstood their exposure ?
The Knight computer error was spectacular and catastrophic but us humans have a longer track record of making catastrophic financial decisions in the market.
Options are complicated. At their most basic level they are no different than a bet, so yes zero-sum. However when used in a spread or as a hedge or any other way to avoid risk or when sold against stock you own as an income generator, it's tough to call them zero-sum.
Puts and Calls are confusing as they are both something you buy. It's not like a sports bet where you're betting on the team to win so the other side will lose if they win. You can buy a put and a call in the same stock and profit on both if your strike prices are aligned properly.
The opposite side of buying a call is selling a call. Just like shorting a stock, when selling an option the most you can make is 100% and your loss potential is infinite. As an option seller, you're hoping the option expires worthless and out of the money so that you can keep the initial outlay. Most brokerages require a high level of clearance to allow you to sell naked puts and calls as it's generally a bad idea if you can't cover the potential upside.
For most products there is a legal framework that forbids buying an insurance contract unless you have an insurable interest. However, under the Commodity Futures Modernization Act of 2000, designed by Summers, Greenspan, Levitt, and Rainer, state insurance regulators are forbidden from regulating OTC derivatives as insurance products. They were already forbidden from regulating exchange traded derivatives (e.g. options and futures).
don't I have to lose money on my puts for you to make money on your calls ?
Actually, we would both lose money if the stock price doesn't move. But yes, generally in order for a call or put to go up, the other must go down.
It's not zero sum, though. If you had purchased a 950 call and an 850 put just before Google announced earnings (with the stock around 900), the call would now be worth more than you paid for both options combined. The counterparty who sold the options is the one who loses (and it is zero sum with them, per design).
If you consider gains and losses just in terms of dollar value, then options are zero-sum. However, if you take non-linear utility functions into account, then a fairly priced transfer of risk from a more risk-adverse party to a less risk-adverse party is a win-win situation.
For instance, let's say a large institutional investor determines that a 5-yr 10-yr flattener on South Whereisitstan bonds is very attractively priced, but can't stomach the risk of the 10-yr yield going through the roof. They pay an investment bank to create some OTC options on the Whereisitstan 10-year notes and several medium-sized hedge funds take the other side. If the hedge funds are right, the big institution over-pays for the options in strict dollar terms, but the options allow the institution to enter into a very attractive bond trade they otherwise would have been unwilling to enter. In this case, everyone could win, even though the big institution takes a (both realized and statistical) loss on the options.
The Knight computer error was spectacular and catastrophic but us humans have a longer track record of making catastrophic financial decisions in the market.