Description
about commodity market
COMMODITY MARKETS
SharynPBangera,- Roll no ( HARMA T E C H Gaonkar, Roll 06. Kanaka ) 5 T H YEAR no 17. Kadambari Narang, 1 2 / 9 / 2 0 1 0 Roll no 43.
MBA
TABLE OF CONTENTS
TOPIC
1) Introduction 1.1) Commodity 1.2)Commodity Markets 1.3)Evolution of commodity market in India 1.4)Types of commodities traded 1.5)Regulatory body 1) Segments of Commodity market 2.1) OTC commodity market 2) Commodity Exchanges 3.1) Largest commodity exchanges 3.2) Structure of Indian Exchange-based commodity market 3.3) Leading Indian commodity exchanges 3.4) Trading volumes 3.5)MCX 3.6) NCDEX 3.7) NMCE 3.8) ICEX 3) Commodity Derivatives 4.1) Difference between commercial and financial derivatives 4.2) Benefits of commodity futures
PAGE NO
2 2 2 2 3 3 4 4 5 5 5 6 6 6 8 10 11 12 12 12
4.3) Why commodity futures 4.4)Commodity trading 4) Future Trends in commodity markets: India
13 14 15
INTRODUCTION
COMMODITY
A commodity may be defined as an article, a product or material that is bought and sold. It can be classified as every kind of movable property, except Actionable Claims, Money & Securities. Any good that is unbranded and is commonly traded in the market is a commodity. Commodities actually offer immense potential to become a separate asset class for market-savvy investors, arbitrageurs and speculators. Retail investors, who claim to understand the equity markets, may find commodities an unfathomable market. But commodities are easy to understand as far as fundamentals of demand and supply are concerned. Retail investors should understand the risks and advantages of trading in commodities futures before taking a leap. Historically, pricing in commodities futures has been less volatile compared with equity and bonds, thus providing an efficient portfolio diversification option.
COMMODITY MARKETS
Commodity markets are markets where raw or primary products are exchanged. These raw commodities are traded on regulated commodities exchanges, in which they are bought and sold in standardized contracts. Commodity market is an important constituent of the financial markets of any country. It is the market where a wide range of products, viz., precious metals, base metals, crude oil, energy and soft commodities like palm oil, coffee etc. are traded. It is important to develop a vibrant, active and liquid commodity market. This would help investors hedge their commodity risk, take speculative positions in commodities and exploit arbitrage opportunities in the market.
EVOLUTION OF COMMODITY MARKET IN INDIA
Bombay Cotton Trade Association Ltd., set up in 1875, was the first organized futures market. Bombay Cotton Exchange Ltd. was established in 1893 following the widespread discontent amongst leading cotton mill owners and merchants over functioning of Bombay Cotton Trade Association. The Futures trading in oilseeds started in 1900 with the establishment of the Gujarati Vyapari Mandali, which carried on futures trading in groundnut, castor seed and cotton. Futures' trading in wheat was existent at several places in Punjab and Uttar Pradesh. But the most notable futures exchange for wheat was chamber of commerce at Hapur set up in 1913. Futures
trading in bullion began in Mumbai in 1920. Calcutta Hessian Exchange Ltd. was established in 1919 for futures trading in raw jute and jute goods. But organized futures trading in raw jute began only in 1927 with the establishment of East Indian Jute Association Ltd. These two associations amalgamated in 1945 to form the East India Jute & Hessian Ltd. to conduct organized trading in both Raw Jute and Jute goods. Forward Contracts (Regulation) Act was enacted in 1952 and the Forwards Markets Commission (FMC) was established in 1953 under the Ministry of Consumer Affairs and Public Distribution. In due course, several other exchanges were created in the country to trade in diverse commodities.
TYPES OF COMMODITIES TRADED
World-over one will find that a market exits for almost all the commodities known to us. These commodities can be broadly classified into the following: Precious Metals: Gold, Silver, Platinum etc Other Metals: Nickel, Aluminum, Copper etc Agro-Based Commodities: Wheat, Corn, Cotton, Oils, Oilseeds. Soft Commodities: Coffee, Cocoa, Sugar etc Live-Stock: Live Cattle, Pork Bellies etc Energy: Crude Oil, Natural Gas, Gasoline etc
REGULATORY BODY
Commodity trading in India is regulated by the Forward Markets Commission (FMC) headquartered at Mumbai, it is a regulatory authority which is overseen by the Ministry of Consumer Affairs and Public Distribution, Govt. of India. It is a statutory body set up in 1953 under the Forward Contracts (Regulation) Act, 1952. The commodity futures market is regulated under the provisions of the Forward Contracts (Regulation) Act, 1952 (FCR Act).
SEGMENTS OF COMMODITY MARKET
The commodities market exits in two distinct forms namely the Over the Counter (OTC) market and the Exchange based market. Also, as in equities, there exists the spot and the derivatives segment. The spot markets are essentially over the counter markets and the participation is restricted to people who are involved with that commodity say the farmer, processor, wholesaler etc. Derivative trading takes place through exchange-based markets with standardized contracts, settlements etc.
OTC COMMODITY MARKET
The OTC markets are essentially spot markets and are localized for specific commodities. Almost all the trading that takes place in these markets is delivery based. The buyers as well as the sellers have their set of brokers who negotiate the prices for them. This can be illustrated with the help of the following example: A farmer, who produces castor, wishing to sell his produce, would go to the local ‘mandi’. There he would contact his broker who would in turn contact the brokers representing the buyers. The buyers in this case would be wholesalers or refiners. In event of a deal taking place the goods and the money would be exchanged directly between the buyer and the seller. This market is restricted to only those people who are directly involved with the commodity. In addition to the spot transactions, forward deals also take place in these markets. However, they too happen on a delivery basis and hence are restricted to the participants in the spot markets.
COMMODITY EXCHANGES
LARGEST COMMODITY EXCHANGES:
• • • • •
•
CME- USA Tokyo Commodity Exchange- Japan NYXE Euronext- EU Dalian Commodity Exchange- China Multi Commodity Exchange- India Inter Continental Exchange- US, Canada, China, UK
STRUCTURE OF INDIAN EXCHANGE BASED COMMODITY MARKET
LEADING INDIAN COMMODITY EXCHANGES
1. Multi Commodity Exchange (MCX) 2. National Commodity and Derivatives Exchange (NCDEX) 3. National Multi-Commodity Exchange (NMCE)
4. Indian Commodity Exchange (ICEX)
TRADING VOLUMES
•
The trading volumes in India's commodity exchanges have risen by 65.81% on a yearly basis as on May 15, 2010 compared to previous year. Total value of trading at the Commodity Exchanges during the fortnight from 1st May 2010 to 15th May 2010 was Rs. 4,35,312.59 crore. Agri-commodities volume at Rs 42,639.17 cr in the fortnight ended May 15, 2010 was 17.38% higher than Rs 36,326 cr recorded in corresponding period last year. Gold futures trading volume at Rs 20,7178 cr for fortnight ended May 15, was higher by 91% compared to previous year's level of Rs 108455.24 cr. Base metals trading volumes rose 116.87% at Rs 112, 312.66 cr as against 51788.69 cr last year.
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•
•
MCX
Headquartered in Mumbai, Multi Commodity Exchange of India Ltd (MCX) is a state-of-the-art electronic commodity futures exchange. The demutualised Exchange set up by Financial Technologies (India) Ltd (FTIL) has permanent recognition from the Government of India to facilitate online trading, and clearing and settlement operations for commodity futures across the country. Having started operations in November 2003, today, MCX holds a market share of over 80% of the Indian commodity futures market, and has more than 2000 registered members operating through over 100,000 trader work stations, across India. The Exchange has also emerged as the sixth largest and amongst the fastest growing commodity futures exchange in the world, in terms of the number of contracts traded in 2009 and the turnover of the exchange for the fiscal year 2009 was US$ 1.24 trillion MCX has also set up in joint venture the MCX Stock Exchange. Earlier spin-offs from the company include the National Spot Exchange, an electronic spot exchange for bullion and agricultural commodities, and National Bulk Handling Corporation (NBHC) India's largest collateral management company which provides bulk storage and handling of agricultural products.
MCX offers more than 40 commodities across various segments such as: METAL BULLION
Aluminium, Copper, Lead, Nickel, Steel Long (Bhavnagar), Steel Long (Govindgarh), Steel Flat, Tin, Zinc FIBER Cotton L Staple, Cotton M Staple, Cotton S Staple, Cotton Yarn, Kapas SPICES Cardamom, Jeera, Pepper, Red Chilli PULSES Chana, Masur, Yellow Peas
Gold, Gold HNI, Gold M, i-gold, Silver, Silver HNI, Silver M ENERGY Brent Crude Oil, Crude Oil, Furnace Oil, Natural Gas, M. E. Sour Crude Oil, ATF, Electricity(Now delisted), Carbon Credit PLANTATION Arecanut, Cashew Kernel, Coffee (Robusta), Rubber PETROCHEMICALS DPE, Polypropylene(PP), PVC
OIL AND SEEDS Castor Oil, Castor Seeds, Coconut Cake, Coconut Oil, Cotton Seed, Crude Palm Oil, Groundnut Oil, Kapasia Khalli, Mustard Oil, Mustard Seed (Jaipur), Mustard Seed (Sirsa), RBD Palmolein, Refined Soy Oil, Refined Sunflower Oil, Rice Bran DOC, Rice Bran Refined Oil, Sesame Seed, Soymeal, Soy Bean, Soy Seeds CEREALS Maize, Barley OTHERS Guargum, Guar Seed, Gurchaku, Mentha Oil, Potato (Agra), Potato (Tarkeshwar)
MCX has been certified to three ISO standards including ISO 9001:2000 Quality Management System standard, ISO 14001:2004 Environmental Management System standard and ISO 27001:2005 Information Security Management System standard. The Exchange’s platform enables anonymous trades, leading to efficient price discovery. Moreover, for globally-traded commodities, MCX’s platform enables domestic participants to trade in Indian currency. The Exchange strives to be at the forefront of developments in the commodities futures industry and has forged strategic alliances with various leading International Exchanges, including Euronext-LIFFE, London Metal Exchange (LME), New York Mercantile Exchange, Shanghai Futures Exchange (SHFE), Sydney Futures Exchange, The Agricultural Futures Exchange of Thailand (AFET), among others. For MCX, staying connected to the grassroots is imperative. Its domestic alliances aid in improving ethical standards and providing services and facilities for
overall improvement of the commodity futures market. Key shareholders Promoted by FTIL, MCX enjoys the confidence of blue chips in the Indian and international financial sectors. It is regulated by the Forward Markets Commission. ? MCX is India's No. 1 commodity exchange with 83% market share in 2009 ? The exchange's main competitor is National Commodity & Derivatives Exchange Ltd ? Globally, MCX ranks no. 1 in silver, no. 2 in natural gas, no. 3 in crude oil and gold in futures trading ? The highest traded item is gold. ? MCX COMDEX is India's first and only composite commodity futures price index
NCDEX
National Commodity & Derivatives Exchange Limited (NCDEX) is a professionally managed on-line multi commodity exchange. The shareholders of NCDEX comprises of large national level institutions, large public sector bank and companies. NCDEX is a nation-level, technology driven de-mutualised on-line commodity exchange with an independent Board of Directors and professional management. NCDEX is regulated by Forward Markets Commission. NCDEX is subjected to various laws of the land like the Forward Contracts (Regulation) Act, Companies Act, Stamp Act, Contract Act and various other legislations. NCDEX headquarters are located in Mumbai and offers facilities to its members from the centres located throughout India.
The commodities contracts offered by NCDEX are as follows: AGRI-BASED COMMODITIES BULLION
Castor Seed, Chana, Chilli, Coffee - Arabica, Coffee – Robusta, Cotton Seed Oilcake, Crude Palm Oil, Expeller Mustard Oil, Groundnut (in shell), Groundnut Expeller Oil, Guar gum, Guar Seeds, Gur, Jeera, Jute sacking bags, Kidney Beans, Indian 28 mm Cotton, Indian 31 mm Cotton, Masoor Grain Bold, Medium Staple Cotton, Mentha Oil, Mulberry Green Cocoons, Mulberry Raw Silk, Rapeseed Mustard Seed, Pepper, Raw Jute, RBD Palmolein, Refined Soy Oil, Rubber, Sesame Seeds, Soy Bean, Sugar – Small, Sugar – Medium, Turmeric, Urad (Black Matpe), V797 Kapas, Yellow Peas, Yellow Red Maize, Yellow Soybean Meal. FERROUS METALS Mild Steel Ingot
Gold 1 KG Gold 100gm Silver 30 KG Silver 5 KG
ENERGY Brent Crude Oil Furnace Oil Light Sweet Crude Oil. PLASTICS Polypropylene Linear Low Density Polyethylene Polyvinyl Chloride.
NON-FERROUS METALS Aluminum Ingot, Copper Cathode Nickel Ingot Zinc Cathode
The top 5 commodities, in terms of volume traded at the Exchange, were Rape/Mustard Seed, Gaur Seed, Soyabean Seeds, Turmeric and Jeera. NCDEX also offers as an information product, an agricultural commodity index. This is a composite index, called NCDEXAGRI that converts 20 commodities currently being offered for trading by NCDEX. This is a spot-price based index. NCDEX also offers as an information product, the index futures, called FUTEXAGRI. This is essentially a what-if index. It indicates that if futures on the index could be traded, then the current FUTEXAGRI value should be the no-arbitrage value for the index futures. However, indexes and index futures are not allowed to be traded under the current regulatory structure.
NMCE
The first state-of-the-art demutualised multi-commodity Exchange, National Multi Commodity Exchange of India Ltd. (NMCE) was promoted by commodity-relevant public institutions, viz., Central Warehousing Corporation (CWC), National Agricultural Cooperative Marketing Federation of India (NAFED), Gujarat Agro-Industries Corporation Limited (GAICL), Gujarat State Agricultural Marketing Board (GSAMB), National Institute of Agricultural Marketing (NIAM), and Neptune Overseas Limited (NOL). NMCE is a zero-debt company; following widely accepted prudent accounting and auditing practices. It has robust delivery mechanism making it the most suitable for the participants in the physical commodity markets. The exchange does not compromise on its delivery provisions to attract speculative volume. Public interest rather than commercial interest guide the functioning of the Exchange. It has also established fair and transparent rule-based procedures and demonstrated total commitment towards eliminating any conflicts of interest. It is the only Commodity Exchange in the world to have received ISO 9001:2000 certification from British Standard Institutions (BSI). NMCE commenced futures trading in 24 commodities on 26th November, 2002 on a national scale and the basket of commodities has grown substantially since then to include cash crops, food grains, plantations, spices, oil seeds, metals & bullion among others. The commodities traded are as follows: OIL & OIL SEEDS Castor seeds 10MT, Copra, Rape/ Mutard seeds, Soya bean oil PRECIOUS METALS Gold Guinea, Gold (100gms), Gold (1kg), Silver SPICES & PULSES Pepper, Cardamom, Turmeric, Chana BASE METALS Aluminium, Copper, Lead, Nickel, Zinc
AGRO-BASED PRODUCTS & FIBERS Rubber, Raw jute, Methol, Isabgul seeds, Kalyan Kapas V-797, Sacking, Coffee REP bulk, Guar seeds, Guar gum, Wheat
NMCE was the first commodity exchange to provide trading facility through internet, through Virtual Private Network (VPN).
NMCE follows best international risk management practices. The contracts are marked to market on daily basis. The system of upfront margining based on Value at Risk is followed to ensure financial security of the market. The unique strength of NMCE is its settlements via a Delivery Backed System, an imperative in the commodity trading business. These deliveries are executed through a sound and reliable Warehouse Receipt System, leading to guaranteed clearing and settlement.
ICEX
Indian Commodity Exchange Limited is a screen based on-line derivatives exchange for commodities and has established a reliable, time tested, and a transparent trading platform. It is also in the process of putting in place robust assaying and warehousing facilities in order to facilitate deliveries. It is jointly promoted by Indiabulls Financial Services Ltd and MMTC Limited, and has Indian Potash Ltd., KRIBHCO and IDFC among others, as its partners. This exchange is ideally positioned to tap the huge scope for increasing the depth and size of commodities’ market and fill in the structural gaps existing in the Indian market. Our head office is located in North India (Gurgaon), one of the key regions in India's Agri belt, with a vision to encourage participation of farmers, traders and actual users to hedge their positions against the wild price fluctuations. The commodities traded are as follows: PRECIOUS METALS Gold, Silver METALS Aluminium, Copper, Lead, Nickel, Zinc SPICES, PULSES & FIBERS Black pepper, Jeera, Turmeric, Chana, Raw Jute ENERGY Crude oil, Natural gas OIL & OIL COMPLEX Mustard seed, Soybean, Soya oil, Palm oil OTHER AGRO PRODUCTS Guar Seed, Mentha oil
COMMODITY DERIVATIVES
Derivatives as a tool for managing risk first originated in the commodities markets. Commodity future is a derivative instrument for the future delivery of a commodity on a fixed date at a particular price. The underlying in this case is a particular commodity. If an investor purchases an oil future, he is entering into a contract to buy a fixed quantity of oil at a future date. The future date is called the contract expiry date. The fixed quantity is called the contract size. These futures can be bought and sold on the commodity exchanges.
DIFFERENCE BETWEEN COMMODITY AND FINANCIAL DERIVATIVE
The basic concept of a derivative contract remains the same whether the underlying happens to be a commodity or a financial asset. However there are some features, which are very peculiar to commodity derivative markets. In the case of financial derivatives, most of these contracts are cash settled. Even in the case of physical settlement, financial assets are not bulky and do not need special facility for storage. Due to the bulky nature of the underlying assets, physical settlement in commodity derivatives creates the need for warehousing. Similarly, the concept of varying quality of asset does not really exist as far as financial underlyings are concerned. However in the case of commodities, the quality of the asset underlying a contract can vary largely. This becomes an important issue to be managed.
BENEFITS OF COMMODITY FUTURES
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To producer: A producer of a commodity can sell the futures of the commodity, thereby ensuring that he can sell a particular quantity of his commodity at a particular price at a particular date. To investors: An investor has alternative investment instruments where he can take a position as to future price and the spot price at a particular date in future and buys and sells options. He is not interested in taking deliveries of the commodities.
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To commodity trader: A commodity trader can use these to ensure that he is protected against any adverse changes in the prices. He can enter into a futures contract for purchase of a certain quantity of the underlying at a particular price on a particular date, or he can enter into a futures contract for sale of a particular quantity on a particular date at a particular price and be assured of the margins because both his purchase price as well as the sale price are fixed. Traders do a good arbitrage in Gold and Silver. Whenever they find Gold moving up, they short silver and similarly whenever they find silver moving up and gold likely to move down, they hedge. To exporters: Future trading is very useful to the exporters as it provides an advance indication of the price likely to prevail and thereby help the exporter in quoting a realistic price and thereby secure export contract in a competitive market. Having entered into an export contract, it enables him to hedge his risk by operating in futures market.
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WHY COMMODITY FUTURES
In India agriculture has traditionally been an area with heavy government intervention. Government intervenes by trying to maintain buffer stocks, they try to fix prices, and they have import-export restrictions and a host of other interventions. Many economists think that we could have major benefits from liberalization of the agricultural sector. In this case, the question arises about who will maintain the buffer stock, how will we smoothen the price fluctuations, how will farmers not be vulnerable that tomorrow the price will crash when the crop comes out, how will farmers get signals that in the future there will be a great need for wheat or rice. In all these aspects the futures market has a very big role to play. If you think there will be a shortage of wheat tomorrow, the futures prices will go up today, and it will carry signals back to the farmer making sowing decisions today. In this fashion, a system of futures markets will improve cropping patterns. Next, if I am growing wheat and am worried that by the time the harvest comes out prices will go down, then I can sell my wheat on the futures market. I can sell my wheat at a price, which is fixed today, which eliminates my risk from price fluctuations. These days, agriculture requires investments -- farmers spend money on fertilizers, high yielding varieties, etc. They are worried when making these investments that by the time the crop comes out prices might have dropped, resulting in losses. Thus a farmer would like to lock in his future price and not be exposed to fluctuations in prices. The third is the role about storage. Today we have the Food Corporation of India, which is doing a huge job of storage, and it is a system, which -- in my opinion -- does not work. Futures market will produce their own kind of smoothing between the present and the future. If the future price is high and the present price is low, an arbitrager will buy today and sell in the future. The converse is also true, thus if the future price is low the arbitrageur will buy in the futures market.
These activities produce their own "optimal" buffer stocks, smooth prices. They also work very effectively when there is trade in agricultural commodities; arbitrageurs on the futures market will use imports and exports to smooth Indian prices using foreign spot markets. In totality, commodity futures markets are a part and parcel of a program for agricultural liberalization. Many agriculture economists understand the need of liberalization in the sector. Futures markets are an instrument for achieving that liberalization.
COMMODITY TRADING • Commodity trading is done through the exchanges, especially the national exchanges, which
have electronic trading and settlement systems. • Minimum investment-Rs.5000/-For trading in bullion (gold and silver), minimum amount required is Rs 650 and Rs 950 for on the current price of approximately Rs 65,00 for gold for one trading unit (10 gm) and about Rs 9,500 for silver (one kg). Margins – 5-10% of commodity contract Both delivery and settlement in cash is permitted. If you want your contract to be cash settled, you have to indicate at the time of placing the order that you don't intend to deliver the item. If you plan to take or make delivery, you need to have the required warehouse receipts. The option to settle in cash or through delivery can be changed as many times as one wants till the last day of the expiry of the contract. Sales tax is applicable only in case of trade resulting into delivery. Normally it is the seller's responsibility to collect and pay sales tax. The sales tax is applicable at the place of delivery.
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FUTURE TRENDS IN COMMODITY MARKETS: INDIA
India: Being in a time-zone that falls in the gap left by the major commodity exchanges in the US, Europe and Japan has also worked in India’s favour because commodity business by its very nature is a 24/7 business. Innovation coupled with modern and successful financial market environment has ensured the beginning of a success story in commodities which will eventually see India becoming a price-setter in major commodities on the strength of its large production and consumption. It is pertinent to note that India and China are being projected as the major drivers for the initiation of yet another commodity super-cycle. Tracking price trends and analysing the statistics have always been key areas of economic research; but in each cycle – whether defined by Jim Rogers, Kondratieff or Dewey & Dakin – the trigger is always different, and in this case it may well be increase in regional consumption, some of which we have already seen. One outcome of the recent boom-bust cycle has been that mergers and acquisitions have gained speed and the biggest beneficiaries will likely be large companies from historically conservative countries, like India. This phase is likely to propel India into the international big league quicker and on a firmer footing. In fact, India did well to weather the global financial crisis over the last year and a half, with GDP growing at 6% at the worst of times, compared to almost every other country which showed negative growth in one or more quarters during this period. Growth did fall from 9% to 6% but was way above the World Bank’s forecast of 4%, demonstrating economic resilience, a sure sign of things to come. It would seem that the alignment of growth with commodities is the most likely outcome to underline the changing world economic order. In addition to futures trading, the number of Indians looking at commodities as part of their investment portfolio is fast reaching critical mass, as gold demonstrates. Add to that a state-ofthe-art infrastructure for trading and the availability of trained personnel, and you have a ready market for businesses wishing to hedge their risks as the markets become more and more globalised on account of the removal of trade barriers worldwide. With a conducive financial environment, the commodity markets in India have come of age and benefits are accruing to those who are most willing to identify consumer needs and service them.
doc_261364696.docx
about commodity market
COMMODITY MARKETS
SharynPBangera,- Roll no ( HARMA T E C H Gaonkar, Roll 06. Kanaka ) 5 T H YEAR no 17. Kadambari Narang, 1 2 / 9 / 2 0 1 0 Roll no 43.
MBA
TABLE OF CONTENTS
TOPIC
1) Introduction 1.1) Commodity 1.2)Commodity Markets 1.3)Evolution of commodity market in India 1.4)Types of commodities traded 1.5)Regulatory body 1) Segments of Commodity market 2.1) OTC commodity market 2) Commodity Exchanges 3.1) Largest commodity exchanges 3.2) Structure of Indian Exchange-based commodity market 3.3) Leading Indian commodity exchanges 3.4) Trading volumes 3.5)MCX 3.6) NCDEX 3.7) NMCE 3.8) ICEX 3) Commodity Derivatives 4.1) Difference between commercial and financial derivatives 4.2) Benefits of commodity futures
PAGE NO
2 2 2 2 3 3 4 4 5 5 5 6 6 6 8 10 11 12 12 12
4.3) Why commodity futures 4.4)Commodity trading 4) Future Trends in commodity markets: India
13 14 15
INTRODUCTION
COMMODITY
A commodity may be defined as an article, a product or material that is bought and sold. It can be classified as every kind of movable property, except Actionable Claims, Money & Securities. Any good that is unbranded and is commonly traded in the market is a commodity. Commodities actually offer immense potential to become a separate asset class for market-savvy investors, arbitrageurs and speculators. Retail investors, who claim to understand the equity markets, may find commodities an unfathomable market. But commodities are easy to understand as far as fundamentals of demand and supply are concerned. Retail investors should understand the risks and advantages of trading in commodities futures before taking a leap. Historically, pricing in commodities futures has been less volatile compared with equity and bonds, thus providing an efficient portfolio diversification option.
COMMODITY MARKETS
Commodity markets are markets where raw or primary products are exchanged. These raw commodities are traded on regulated commodities exchanges, in which they are bought and sold in standardized contracts. Commodity market is an important constituent of the financial markets of any country. It is the market where a wide range of products, viz., precious metals, base metals, crude oil, energy and soft commodities like palm oil, coffee etc. are traded. It is important to develop a vibrant, active and liquid commodity market. This would help investors hedge their commodity risk, take speculative positions in commodities and exploit arbitrage opportunities in the market.
EVOLUTION OF COMMODITY MARKET IN INDIA
Bombay Cotton Trade Association Ltd., set up in 1875, was the first organized futures market. Bombay Cotton Exchange Ltd. was established in 1893 following the widespread discontent amongst leading cotton mill owners and merchants over functioning of Bombay Cotton Trade Association. The Futures trading in oilseeds started in 1900 with the establishment of the Gujarati Vyapari Mandali, which carried on futures trading in groundnut, castor seed and cotton. Futures' trading in wheat was existent at several places in Punjab and Uttar Pradesh. But the most notable futures exchange for wheat was chamber of commerce at Hapur set up in 1913. Futures
trading in bullion began in Mumbai in 1920. Calcutta Hessian Exchange Ltd. was established in 1919 for futures trading in raw jute and jute goods. But organized futures trading in raw jute began only in 1927 with the establishment of East Indian Jute Association Ltd. These two associations amalgamated in 1945 to form the East India Jute & Hessian Ltd. to conduct organized trading in both Raw Jute and Jute goods. Forward Contracts (Regulation) Act was enacted in 1952 and the Forwards Markets Commission (FMC) was established in 1953 under the Ministry of Consumer Affairs and Public Distribution. In due course, several other exchanges were created in the country to trade in diverse commodities.
TYPES OF COMMODITIES TRADED
World-over one will find that a market exits for almost all the commodities known to us. These commodities can be broadly classified into the following: Precious Metals: Gold, Silver, Platinum etc Other Metals: Nickel, Aluminum, Copper etc Agro-Based Commodities: Wheat, Corn, Cotton, Oils, Oilseeds. Soft Commodities: Coffee, Cocoa, Sugar etc Live-Stock: Live Cattle, Pork Bellies etc Energy: Crude Oil, Natural Gas, Gasoline etc
REGULATORY BODY
Commodity trading in India is regulated by the Forward Markets Commission (FMC) headquartered at Mumbai, it is a regulatory authority which is overseen by the Ministry of Consumer Affairs and Public Distribution, Govt. of India. It is a statutory body set up in 1953 under the Forward Contracts (Regulation) Act, 1952. The commodity futures market is regulated under the provisions of the Forward Contracts (Regulation) Act, 1952 (FCR Act).
SEGMENTS OF COMMODITY MARKET
The commodities market exits in two distinct forms namely the Over the Counter (OTC) market and the Exchange based market. Also, as in equities, there exists the spot and the derivatives segment. The spot markets are essentially over the counter markets and the participation is restricted to people who are involved with that commodity say the farmer, processor, wholesaler etc. Derivative trading takes place through exchange-based markets with standardized contracts, settlements etc.
OTC COMMODITY MARKET
The OTC markets are essentially spot markets and are localized for specific commodities. Almost all the trading that takes place in these markets is delivery based. The buyers as well as the sellers have their set of brokers who negotiate the prices for them. This can be illustrated with the help of the following example: A farmer, who produces castor, wishing to sell his produce, would go to the local ‘mandi’. There he would contact his broker who would in turn contact the brokers representing the buyers. The buyers in this case would be wholesalers or refiners. In event of a deal taking place the goods and the money would be exchanged directly between the buyer and the seller. This market is restricted to only those people who are directly involved with the commodity. In addition to the spot transactions, forward deals also take place in these markets. However, they too happen on a delivery basis and hence are restricted to the participants in the spot markets.
COMMODITY EXCHANGES
LARGEST COMMODITY EXCHANGES:
• • • • •
•
CME- USA Tokyo Commodity Exchange- Japan NYXE Euronext- EU Dalian Commodity Exchange- China Multi Commodity Exchange- India Inter Continental Exchange- US, Canada, China, UK
STRUCTURE OF INDIAN EXCHANGE BASED COMMODITY MARKET
LEADING INDIAN COMMODITY EXCHANGES
1. Multi Commodity Exchange (MCX) 2. National Commodity and Derivatives Exchange (NCDEX) 3. National Multi-Commodity Exchange (NMCE)
4. Indian Commodity Exchange (ICEX)
TRADING VOLUMES
•
The trading volumes in India's commodity exchanges have risen by 65.81% on a yearly basis as on May 15, 2010 compared to previous year. Total value of trading at the Commodity Exchanges during the fortnight from 1st May 2010 to 15th May 2010 was Rs. 4,35,312.59 crore. Agri-commodities volume at Rs 42,639.17 cr in the fortnight ended May 15, 2010 was 17.38% higher than Rs 36,326 cr recorded in corresponding period last year. Gold futures trading volume at Rs 20,7178 cr for fortnight ended May 15, was higher by 91% compared to previous year's level of Rs 108455.24 cr. Base metals trading volumes rose 116.87% at Rs 112, 312.66 cr as against 51788.69 cr last year.
•
•
•
MCX
Headquartered in Mumbai, Multi Commodity Exchange of India Ltd (MCX) is a state-of-the-art electronic commodity futures exchange. The demutualised Exchange set up by Financial Technologies (India) Ltd (FTIL) has permanent recognition from the Government of India to facilitate online trading, and clearing and settlement operations for commodity futures across the country. Having started operations in November 2003, today, MCX holds a market share of over 80% of the Indian commodity futures market, and has more than 2000 registered members operating through over 100,000 trader work stations, across India. The Exchange has also emerged as the sixth largest and amongst the fastest growing commodity futures exchange in the world, in terms of the number of contracts traded in 2009 and the turnover of the exchange for the fiscal year 2009 was US$ 1.24 trillion MCX has also set up in joint venture the MCX Stock Exchange. Earlier spin-offs from the company include the National Spot Exchange, an electronic spot exchange for bullion and agricultural commodities, and National Bulk Handling Corporation (NBHC) India's largest collateral management company which provides bulk storage and handling of agricultural products.
MCX offers more than 40 commodities across various segments such as: METAL BULLION
Aluminium, Copper, Lead, Nickel, Steel Long (Bhavnagar), Steel Long (Govindgarh), Steel Flat, Tin, Zinc FIBER Cotton L Staple, Cotton M Staple, Cotton S Staple, Cotton Yarn, Kapas SPICES Cardamom, Jeera, Pepper, Red Chilli PULSES Chana, Masur, Yellow Peas
Gold, Gold HNI, Gold M, i-gold, Silver, Silver HNI, Silver M ENERGY Brent Crude Oil, Crude Oil, Furnace Oil, Natural Gas, M. E. Sour Crude Oil, ATF, Electricity(Now delisted), Carbon Credit PLANTATION Arecanut, Cashew Kernel, Coffee (Robusta), Rubber PETROCHEMICALS DPE, Polypropylene(PP), PVC
OIL AND SEEDS Castor Oil, Castor Seeds, Coconut Cake, Coconut Oil, Cotton Seed, Crude Palm Oil, Groundnut Oil, Kapasia Khalli, Mustard Oil, Mustard Seed (Jaipur), Mustard Seed (Sirsa), RBD Palmolein, Refined Soy Oil, Refined Sunflower Oil, Rice Bran DOC, Rice Bran Refined Oil, Sesame Seed, Soymeal, Soy Bean, Soy Seeds CEREALS Maize, Barley OTHERS Guargum, Guar Seed, Gurchaku, Mentha Oil, Potato (Agra), Potato (Tarkeshwar)
MCX has been certified to three ISO standards including ISO 9001:2000 Quality Management System standard, ISO 14001:2004 Environmental Management System standard and ISO 27001:2005 Information Security Management System standard. The Exchange’s platform enables anonymous trades, leading to efficient price discovery. Moreover, for globally-traded commodities, MCX’s platform enables domestic participants to trade in Indian currency. The Exchange strives to be at the forefront of developments in the commodities futures industry and has forged strategic alliances with various leading International Exchanges, including Euronext-LIFFE, London Metal Exchange (LME), New York Mercantile Exchange, Shanghai Futures Exchange (SHFE), Sydney Futures Exchange, The Agricultural Futures Exchange of Thailand (AFET), among others. For MCX, staying connected to the grassroots is imperative. Its domestic alliances aid in improving ethical standards and providing services and facilities for
overall improvement of the commodity futures market. Key shareholders Promoted by FTIL, MCX enjoys the confidence of blue chips in the Indian and international financial sectors. It is regulated by the Forward Markets Commission. ? MCX is India's No. 1 commodity exchange with 83% market share in 2009 ? The exchange's main competitor is National Commodity & Derivatives Exchange Ltd ? Globally, MCX ranks no. 1 in silver, no. 2 in natural gas, no. 3 in crude oil and gold in futures trading ? The highest traded item is gold. ? MCX COMDEX is India's first and only composite commodity futures price index
NCDEX
National Commodity & Derivatives Exchange Limited (NCDEX) is a professionally managed on-line multi commodity exchange. The shareholders of NCDEX comprises of large national level institutions, large public sector bank and companies. NCDEX is a nation-level, technology driven de-mutualised on-line commodity exchange with an independent Board of Directors and professional management. NCDEX is regulated by Forward Markets Commission. NCDEX is subjected to various laws of the land like the Forward Contracts (Regulation) Act, Companies Act, Stamp Act, Contract Act and various other legislations. NCDEX headquarters are located in Mumbai and offers facilities to its members from the centres located throughout India.
The commodities contracts offered by NCDEX are as follows: AGRI-BASED COMMODITIES BULLION
Castor Seed, Chana, Chilli, Coffee - Arabica, Coffee – Robusta, Cotton Seed Oilcake, Crude Palm Oil, Expeller Mustard Oil, Groundnut (in shell), Groundnut Expeller Oil, Guar gum, Guar Seeds, Gur, Jeera, Jute sacking bags, Kidney Beans, Indian 28 mm Cotton, Indian 31 mm Cotton, Masoor Grain Bold, Medium Staple Cotton, Mentha Oil, Mulberry Green Cocoons, Mulberry Raw Silk, Rapeseed Mustard Seed, Pepper, Raw Jute, RBD Palmolein, Refined Soy Oil, Rubber, Sesame Seeds, Soy Bean, Sugar – Small, Sugar – Medium, Turmeric, Urad (Black Matpe), V797 Kapas, Yellow Peas, Yellow Red Maize, Yellow Soybean Meal. FERROUS METALS Mild Steel Ingot
Gold 1 KG Gold 100gm Silver 30 KG Silver 5 KG
ENERGY Brent Crude Oil Furnace Oil Light Sweet Crude Oil. PLASTICS Polypropylene Linear Low Density Polyethylene Polyvinyl Chloride.
NON-FERROUS METALS Aluminum Ingot, Copper Cathode Nickel Ingot Zinc Cathode
The top 5 commodities, in terms of volume traded at the Exchange, were Rape/Mustard Seed, Gaur Seed, Soyabean Seeds, Turmeric and Jeera. NCDEX also offers as an information product, an agricultural commodity index. This is a composite index, called NCDEXAGRI that converts 20 commodities currently being offered for trading by NCDEX. This is a spot-price based index. NCDEX also offers as an information product, the index futures, called FUTEXAGRI. This is essentially a what-if index. It indicates that if futures on the index could be traded, then the current FUTEXAGRI value should be the no-arbitrage value for the index futures. However, indexes and index futures are not allowed to be traded under the current regulatory structure.
NMCE
The first state-of-the-art demutualised multi-commodity Exchange, National Multi Commodity Exchange of India Ltd. (NMCE) was promoted by commodity-relevant public institutions, viz., Central Warehousing Corporation (CWC), National Agricultural Cooperative Marketing Federation of India (NAFED), Gujarat Agro-Industries Corporation Limited (GAICL), Gujarat State Agricultural Marketing Board (GSAMB), National Institute of Agricultural Marketing (NIAM), and Neptune Overseas Limited (NOL). NMCE is a zero-debt company; following widely accepted prudent accounting and auditing practices. It has robust delivery mechanism making it the most suitable for the participants in the physical commodity markets. The exchange does not compromise on its delivery provisions to attract speculative volume. Public interest rather than commercial interest guide the functioning of the Exchange. It has also established fair and transparent rule-based procedures and demonstrated total commitment towards eliminating any conflicts of interest. It is the only Commodity Exchange in the world to have received ISO 9001:2000 certification from British Standard Institutions (BSI). NMCE commenced futures trading in 24 commodities on 26th November, 2002 on a national scale and the basket of commodities has grown substantially since then to include cash crops, food grains, plantations, spices, oil seeds, metals & bullion among others. The commodities traded are as follows: OIL & OIL SEEDS Castor seeds 10MT, Copra, Rape/ Mutard seeds, Soya bean oil PRECIOUS METALS Gold Guinea, Gold (100gms), Gold (1kg), Silver SPICES & PULSES Pepper, Cardamom, Turmeric, Chana BASE METALS Aluminium, Copper, Lead, Nickel, Zinc
AGRO-BASED PRODUCTS & FIBERS Rubber, Raw jute, Methol, Isabgul seeds, Kalyan Kapas V-797, Sacking, Coffee REP bulk, Guar seeds, Guar gum, Wheat
NMCE was the first commodity exchange to provide trading facility through internet, through Virtual Private Network (VPN).
NMCE follows best international risk management practices. The contracts are marked to market on daily basis. The system of upfront margining based on Value at Risk is followed to ensure financial security of the market. The unique strength of NMCE is its settlements via a Delivery Backed System, an imperative in the commodity trading business. These deliveries are executed through a sound and reliable Warehouse Receipt System, leading to guaranteed clearing and settlement.
ICEX
Indian Commodity Exchange Limited is a screen based on-line derivatives exchange for commodities and has established a reliable, time tested, and a transparent trading platform. It is also in the process of putting in place robust assaying and warehousing facilities in order to facilitate deliveries. It is jointly promoted by Indiabulls Financial Services Ltd and MMTC Limited, and has Indian Potash Ltd., KRIBHCO and IDFC among others, as its partners. This exchange is ideally positioned to tap the huge scope for increasing the depth and size of commodities’ market and fill in the structural gaps existing in the Indian market. Our head office is located in North India (Gurgaon), one of the key regions in India's Agri belt, with a vision to encourage participation of farmers, traders and actual users to hedge their positions against the wild price fluctuations. The commodities traded are as follows: PRECIOUS METALS Gold, Silver METALS Aluminium, Copper, Lead, Nickel, Zinc SPICES, PULSES & FIBERS Black pepper, Jeera, Turmeric, Chana, Raw Jute ENERGY Crude oil, Natural gas OIL & OIL COMPLEX Mustard seed, Soybean, Soya oil, Palm oil OTHER AGRO PRODUCTS Guar Seed, Mentha oil
COMMODITY DERIVATIVES
Derivatives as a tool for managing risk first originated in the commodities markets. Commodity future is a derivative instrument for the future delivery of a commodity on a fixed date at a particular price. The underlying in this case is a particular commodity. If an investor purchases an oil future, he is entering into a contract to buy a fixed quantity of oil at a future date. The future date is called the contract expiry date. The fixed quantity is called the contract size. These futures can be bought and sold on the commodity exchanges.
DIFFERENCE BETWEEN COMMODITY AND FINANCIAL DERIVATIVE
The basic concept of a derivative contract remains the same whether the underlying happens to be a commodity or a financial asset. However there are some features, which are very peculiar to commodity derivative markets. In the case of financial derivatives, most of these contracts are cash settled. Even in the case of physical settlement, financial assets are not bulky and do not need special facility for storage. Due to the bulky nature of the underlying assets, physical settlement in commodity derivatives creates the need for warehousing. Similarly, the concept of varying quality of asset does not really exist as far as financial underlyings are concerned. However in the case of commodities, the quality of the asset underlying a contract can vary largely. This becomes an important issue to be managed.
BENEFITS OF COMMODITY FUTURES
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To producer: A producer of a commodity can sell the futures of the commodity, thereby ensuring that he can sell a particular quantity of his commodity at a particular price at a particular date. To investors: An investor has alternative investment instruments where he can take a position as to future price and the spot price at a particular date in future and buys and sells options. He is not interested in taking deliveries of the commodities.
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To commodity trader: A commodity trader can use these to ensure that he is protected against any adverse changes in the prices. He can enter into a futures contract for purchase of a certain quantity of the underlying at a particular price on a particular date, or he can enter into a futures contract for sale of a particular quantity on a particular date at a particular price and be assured of the margins because both his purchase price as well as the sale price are fixed. Traders do a good arbitrage in Gold and Silver. Whenever they find Gold moving up, they short silver and similarly whenever they find silver moving up and gold likely to move down, they hedge. To exporters: Future trading is very useful to the exporters as it provides an advance indication of the price likely to prevail and thereby help the exporter in quoting a realistic price and thereby secure export contract in a competitive market. Having entered into an export contract, it enables him to hedge his risk by operating in futures market.
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WHY COMMODITY FUTURES
In India agriculture has traditionally been an area with heavy government intervention. Government intervenes by trying to maintain buffer stocks, they try to fix prices, and they have import-export restrictions and a host of other interventions. Many economists think that we could have major benefits from liberalization of the agricultural sector. In this case, the question arises about who will maintain the buffer stock, how will we smoothen the price fluctuations, how will farmers not be vulnerable that tomorrow the price will crash when the crop comes out, how will farmers get signals that in the future there will be a great need for wheat or rice. In all these aspects the futures market has a very big role to play. If you think there will be a shortage of wheat tomorrow, the futures prices will go up today, and it will carry signals back to the farmer making sowing decisions today. In this fashion, a system of futures markets will improve cropping patterns. Next, if I am growing wheat and am worried that by the time the harvest comes out prices will go down, then I can sell my wheat on the futures market. I can sell my wheat at a price, which is fixed today, which eliminates my risk from price fluctuations. These days, agriculture requires investments -- farmers spend money on fertilizers, high yielding varieties, etc. They are worried when making these investments that by the time the crop comes out prices might have dropped, resulting in losses. Thus a farmer would like to lock in his future price and not be exposed to fluctuations in prices. The third is the role about storage. Today we have the Food Corporation of India, which is doing a huge job of storage, and it is a system, which -- in my opinion -- does not work. Futures market will produce their own kind of smoothing between the present and the future. If the future price is high and the present price is low, an arbitrager will buy today and sell in the future. The converse is also true, thus if the future price is low the arbitrageur will buy in the futures market.
These activities produce their own "optimal" buffer stocks, smooth prices. They also work very effectively when there is trade in agricultural commodities; arbitrageurs on the futures market will use imports and exports to smooth Indian prices using foreign spot markets. In totality, commodity futures markets are a part and parcel of a program for agricultural liberalization. Many agriculture economists understand the need of liberalization in the sector. Futures markets are an instrument for achieving that liberalization.
COMMODITY TRADING • Commodity trading is done through the exchanges, especially the national exchanges, which
have electronic trading and settlement systems. • Minimum investment-Rs.5000/-For trading in bullion (gold and silver), minimum amount required is Rs 650 and Rs 950 for on the current price of approximately Rs 65,00 for gold for one trading unit (10 gm) and about Rs 9,500 for silver (one kg). Margins – 5-10% of commodity contract Both delivery and settlement in cash is permitted. If you want your contract to be cash settled, you have to indicate at the time of placing the order that you don't intend to deliver the item. If you plan to take or make delivery, you need to have the required warehouse receipts. The option to settle in cash or through delivery can be changed as many times as one wants till the last day of the expiry of the contract. Sales tax is applicable only in case of trade resulting into delivery. Normally it is the seller's responsibility to collect and pay sales tax. The sales tax is applicable at the place of delivery.
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FUTURE TRENDS IN COMMODITY MARKETS: INDIA
India: Being in a time-zone that falls in the gap left by the major commodity exchanges in the US, Europe and Japan has also worked in India’s favour because commodity business by its very nature is a 24/7 business. Innovation coupled with modern and successful financial market environment has ensured the beginning of a success story in commodities which will eventually see India becoming a price-setter in major commodities on the strength of its large production and consumption. It is pertinent to note that India and China are being projected as the major drivers for the initiation of yet another commodity super-cycle. Tracking price trends and analysing the statistics have always been key areas of economic research; but in each cycle – whether defined by Jim Rogers, Kondratieff or Dewey & Dakin – the trigger is always different, and in this case it may well be increase in regional consumption, some of which we have already seen. One outcome of the recent boom-bust cycle has been that mergers and acquisitions have gained speed and the biggest beneficiaries will likely be large companies from historically conservative countries, like India. This phase is likely to propel India into the international big league quicker and on a firmer footing. In fact, India did well to weather the global financial crisis over the last year and a half, with GDP growing at 6% at the worst of times, compared to almost every other country which showed negative growth in one or more quarters during this period. Growth did fall from 9% to 6% but was way above the World Bank’s forecast of 4%, demonstrating economic resilience, a sure sign of things to come. It would seem that the alignment of growth with commodities is the most likely outcome to underline the changing world economic order. In addition to futures trading, the number of Indians looking at commodities as part of their investment portfolio is fast reaching critical mass, as gold demonstrates. Add to that a state-ofthe-art infrastructure for trading and the availability of trained personnel, and you have a ready market for businesses wishing to hedge their risks as the markets become more and more globalised on account of the removal of trade barriers worldwide. With a conducive financial environment, the commodity markets in India have come of age and benefits are accruing to those who are most willing to identify consumer needs and service them.
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