Commodity Trading

“STUDY PROJECT ON THE GROWTH OF COMMODITY TRADING IN INDIA

A CRITICAL ANALYSIS ON COMMODITY TRADING

AT

COMMODITY MARKETS

A Project report submitted in partial fulfillment of the requirements

for the award of the Degree in Master of Business Administration

in"Christ University"

Submitted By

MOSES.D.

Register Number - 1122009

DEPARTMENT OF MANAGMENT STUDIES, CHRIST UNIVERSITY

HOSUR ROAD BANGLAORE –(2012-13)

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Chapter 1

Introduction to Commodity Trading

What is “Commodity”?

Any product that can be used for commerce or an article of

commerce which is traded on an authorized commodity exchange is

known as commodity. The article should be movable of value, something

which is bought or sold and which is produced or used as the subject or

barter or sale. In short commodity includes all kinds of goods. Indian

Forward Contracts (Regulation) Act (FCRA), 1952 defines “goods” as

“every kind of movable property other than actionable claims, money and

securities”.

In current situation, all goods and products of agricultural

(including plantation), mineral and fossil origin are allowed for

commodity trading recognized under the FCRA. The national commodity

exchanges, recognized by the Central Government, permits commodities

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which include precious (gold and silver) and non-ferrous metals, cereals

and pulses, ginned and un-ginned cotton, oilseeds, oils and oilcakes, raw

jute and jute goods, sugar and jaggery, potatoes and onions, coffee and

tea, rubber and spices. Etc.

What is “Commodity Trading”?

Commodities trading are a sophisticated form of investing. It is

similar to stock trading but instead of buying and selling shares of

companies, an investor buys and sells commodities. Like stocks,

commodities are traded on exchanges where buyers and sellers can work

together to either get the products they need or to make a profit from the

fluctuating prices. To completely understand the commodity trading we

need to describe two more terms which are similar to each other.

a.) Commodity exchange

b.) Commodity market

Commodity exchange:

A commodities exchange is an exchange where various commodities

and derivatives products are traded. Most commodity markets across the

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world trade in agricultural products and other raw materials (like wheat,

barley, sugar, maize, cotton, cocoa, coffee, milk products, pork bellies,

oil, metals, etc.)

Commodity market:

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

What is Commodity Futures?

A Commodity futures is an agreement between two parties to

buy or sell a specified and standardized quantity of a commodity at a

certain time in future at a price agreed upon at the time of entering into

the contract on the commodity futures exchange.

The need for a futures market arises mainly due to the hedging

function that it can perform. Commodity markets, like any other financial

instrument, involve risk associated with frequent price volatility. The loss

due to price volatility can be attributed to the following reasons:

Consumer Preferences: 4

In the short-term, their influence on price volatility is small

since it is a slow process permitting manufacturers, dealers and

wholesalers to adjust their inventory in advance.

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Changes in supply: - They are abrupt and unpredictable bringing about

wild fluctuations in prices. This can especially noticed in agricultural

commodities where the weather plays a major role in affecting the

fortunes of people involved in this industry. The futures market has

evolved to neutralize such risks through a mechanism; namely hedging.

The objectives of Commodity futures: -

Hedging with the objective of transferring risk related to the

possession of physical assets through any adverse moments in

price. Liquidity and Price discovery to ensure base minimum

volume in trading of a commodity through market information and

demand supply factors that facilitates a regular and authentic price

discovery mechanism.

Maintaining buffer stock and better allocation of resources as it

augments reduction in inventory requirement and thus the exposure

to risks related with price fluctuation declines. Resources can thus

be diversified for investments.

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Price stabilization along with balancing demand and supply

position. Futures trading leads to predictability in assessing the

domestic prices, which maintains stability, thus safeguarding

against any short term adverse price movements. Liquidity in -

Contracts of the commodities traded also ensures in maintaining the

equilibrium between demand and supply.

Flexibility, certainty and transparency in purchasing commodities

facilitate bank financing. Predictability in prices of commodity

would lead to stability, which in turn would eliminate the risks

associated with running the business of trading commodities. This

would make funding easier and less stringent for banks to

commodity market players.

Importance of Commodity Trading:-

The primary objectives of any futures exchange are authentic

price discovery and an efficient price risk management. The beneficiaries

include those who trade in the commodities being offered in the

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exchange as well as those who have nothing to do with futures trading. It

is because of price discovery and risk management through the existence

of futures exchanges that a lot of businesses and services are able to

function smoothly.

1. Price Discovery:-Based on inputs regarding specific market

information, the demand and supply equilibrium, weather forecasts,

expert views and comments, inflation rates, Government policies,

market dynamics, hopes and fears, buyers and sellers conduct

trading at futures exchanges. This transforms in to continuous price

discovery mechanism. The execution of trade between buyers and

sellers leads to assessment of fair value of a particular commodity

that is immediately disseminated on the trading terminal.

2. Price Risk Management: - Hedging is the most common method

of price risk management. It is strategy of offering price risk that is

inherent in spot market by taking an equal but opposite position in

the futures market. Futures markets are used as a mode by hedgers

to protect their business from adverse price change. This could dent

the profitability of their business. Hedging benefits who are

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involved in trading of commodities like farmers, processors,

merchandisers, manufacturers, exporters, importers etc.

3. Import- Export competitiveness: - The exporters can hedge their

price risk and improve their competitiveness by making use of

futures market. A majority of traders which are involved in physical

trade internationally intend to buy forwards. The purchases made

from the physical market might expose them to the risk of price risk

resulting to losses. The existence of futures market would allow the

exporters to hedge their proposed purchase by temporarily

substituting for actual purchase till the time is ripe to buy in

physical market. In the absence of futures market it will be

meticulous, time consuming and costly physical transactions.

4. Predictable Pricing: - The demand for certain commodities is

highly price elastic. The manufacturers have to ensure that the

prices should be stable in order to protect their market share with

the free entry of imports. Futures contracts will enable

predictability in domestic prices. The manufacturers can, as a result,

smooth out the influence of changes in their input prices very

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easily. With no futures market, the manufacturer can be caught

between severe short-term price movements of oils and necessity to

maintain price stability, which could only be possible through

sufficient financial reserves that could otherwise be utilized for

making other profitable investments.

5. Benefits for farmers/Agriculturalists: - Price instability has a

direct bearing on farmers in the absence of futures market. There

would be no need to have large reserves to cover against

unfavorable price fluctuations. This would reduce the risk

premiums associated with the marketing or processing margins

enabling more returns on produce. Storing more and being more

active in the markets. The price information accessible to the

farmers determines the extent to which traders/processors increase

price to them. Since one of the objectives of futures exchange is to

make available these prices as far as possible, it is very likely to

benefit the farmers. Also, due to the time lag between planning and

production, the market-determined price information disseminated

by futures exchanges would be crucial for their production

decisions.

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6. Credit accessibility: - The absence of proper risk management

tools would attract the marketing and processing of commodities to

high-risk exposure making it risky business activity to fund. Even a

small movement in prices can eat up a huge proportion of capital

owned by traders, at times making it virtually impossible to

payback the loan. There is a high degree of reluctance among banks

to fund commodity traders, especially those who do not manage

price risks. If in case they do, the interest rate is likely to be high

and terms and conditions very stringent. This posses a huge

obstacle in the smooth functioning and competition of commodities

market. Hedging, which is possible through futures markets, would

cut down the discount rate in commodity lending.

7. Improved product quality: - The existence of warehouses for

facilitating delivery with grading facilities along with other related

benefits provides a very strong reason to upgrade and enhance the

quality of the commodity to grade that is acceptable by the

exchange. It ensures uniform standardization of commodity trade,

including the terms of quality standard: the quality certificates that

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are issued by the exchange-certified warehouses have the potential

to become the norm for physical trade.

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Chapter-2

India and Commodity Market

History of Commodity Market in India:-

The history of organized commodity derivatives in India goes

back to the nineteenth century when Cotton Trade Association started

futures trading in 1875, about a decade after they started in Chicago.

Over the time derivatives market developed in several commodities in

India. Following Cotton, derivatives trading started in oilseed in Bombay

(1900), raw jute and jute goods in Calcutta (1912), Wheat in Hapur

(1913) and Bullion in Bombay (1920).

However many feared that derivatives fuelled unnecessary

speculation and were detrimental to the healthy functioning of the market

for the underlying commodities, resulting in to banning of commodity

options trading and cash settlement of commodities futures after

independence in 1952. The parliament passed the Forward Contracts

(Regulation) Act, 1952, which regulated contracts in Commodities all

over the India. The act prohibited options trading in Goods along with

cash settlement of forward trades, rendering a crushing blow to the

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commodity derivatives market. Under the act only those

associations/exchanges, which are granted reorganization from the

Government, are allowed to organize forward trading in regulated

commodities. The act envisages three tire regulations: (i) Exchange

which organizes forward trading in commodities can regulate trading on

day-to-day basis; (ii) Forward Markets Commission provides regulatory

oversight under the powers delegated to it by the central Government.

(iii) The Central Government- Department of Consumer Affairs, Ministry

of Consumer Affairs, Food and Public Distribution- is the ultimate

regulatory authority.

The commodities future market remained dismantled and

remained dormant for about four decades until the new millennium when

the Government, in a complete change in a policy, started actively

encouraging commodity market. After Liberalization and Globalization

in 1990, the Government set up a committee (1993) to examine the role

of futures trading. The Committee (headed by Prof. K.N. Kabra)

recommended allowing futures trading in 17 commodity groups. It also

recommended strengthening Forward Markets Commission, and certain

amendments to Forward Contracts (Regulation) Act 1952, particularly

allowing option trading in goods and registration of brokers with

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Forward Markets Commission. The Government accepted most of these

recommendations and futures’ trading was permitted in all recommended

commodities. It is timely decision since internationally the commodity

cycle is on upswing and the next decade being touched as the decade of

Commodities.

Commodity exchange in India plays an important role where the prices of

any commodity are not fixed, in an organized way. Earlier only the buyer

of produce and its seller in the market judged upon the prices. Others

never had a say.

Today, commodity exchanges are purely speculative in nature.

Before discovering the price, they reach to the producers, end-users, and

even the retail investors, at a grassroots level. It brings a price

transparency and risk management in the vital market. A big difference

between a typical auction, where a single auctioneer announces the bids

and the Exchange is that people are not only competing to buy but also to

sell. By Exchange rules and by law, no one can bid under a higher bid,

and no one can offer to sell higher than someone else’s lower offer. That

keeps the market as efficient as possible, and keeps the traders on their

toes to make sure no one gets the purchase or sale before they do. Since

2002, the commodities future market in India has experienced an

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unexpected boom in terms of modern exchanges, number of commodities

allowed for derivatives trading as well as the value of futures trading in

commodities, which crossed $ 1 trillion mark in 2006. Since 1952 till

2002 commodity datives market was virtually non- existent, except some

negligible activities on OTC basis.

In India there are 25 recognized future exchanges, of which

there are three national level multi-commodity exchanges. After a gap of

almost three decades, Government of India has allowed forward

transactions in commodities through Online Commodity Exchanges, a

modification of traditional business known as Adhat and Vayda Vyapar

to facilitate better risk coverage and delivery of commodities. The three

exchanges are: National Commodity & Derivatives Exchange Limited

(NCDEX) Mumbai, Multi Commodity Exchange of India Limited

(MCX) Mumbai and National Multi-Commodity Exchange of India

Limited (NMCEIL) Ahmedabad.There are other regional commodity

exchanges situated in different parts of India.

Legal framework for regulating commodity futures in India:-

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The commodity futures traded in commodity exchanges are

regulated by the Government under the Forward Contracts Regulations

Act, 1952 and the Rules framed there under. The regulator for the

commodities trading is the Forward Markets Commission, situated at

Mumbai, which comes under the Ministry of Consumer Affairs Food and

Public Distribution

Forward Markets Commission (FMC):-

It is statutory institution set up in 1953 under Forward

Contracts (Regulation) Act, 1952. Commission consists of minimum two

and maximum four members appointed by Central Govt. Out of these

members there is one nominated chairman. All the exchanges have been

set up under overall control of Forward Market Commission (FMC) of

Government of India.

National Commodities & Derivatives Exchange Limited (NCDEX)

National Commodities & Derivatives Exchange Limited

(NCDEX) promoted by ICICI Bank Limited (ICICI Bank), Life

Insurance Corporation of India (LIC), National Bank of Agriculture and

Rural Development (NABARD) and National Stock Exchange of India

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Limited (NSC). Punjab National Bank (PNB), Credit Ratting Information

Service of India Limited (CRISIL), Indian Farmers Fertilizer Cooperative

Limited (IFFCO), Canara Bank and Goldman Sachs by subscribing to the

equity shares have joined the promoters as a share holder of exchange.

NCDEX is the only Commodity Exchange in the country promoted by

national level institutions.

NCDEX is a public limited company incorporated on 23

April 2003. NCDEX is a national level technology driven on line

Commodity Exchange with an independent Board of Directors and

professionals not having any vested interest in Commodity Markets.

It is committed to provide a world class commodity exchange platform

for market participants to trade in a wide spectrum of commodity

derivatives driven by best global practices, professionalism and

transparency.

NCDEX is regulated by Forward Markets Commission

(FMC). NCDEX is also subjected to the various laws of land like the

Companies Act, Stamp Act, Contracts Act, Forward Contracts

Regulation Act and various other legislations.

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NCDEX is located in Mumbai and offers facilities to its

members in more than 550 centers through out India. NCDEX currently

facilitates trading of 57 commodities.

Commodities Traded at NCDEX:-

Bullion:-

Gold KG, Silver, Brent

Minerals:-

Electrolytic Copper Cathode, Aluminum Ingot, Nickel

Cathode, Zinc Metal Ingot, Mild steel Ingots

Oil and Oil seeds:-

Cotton seed, Oil cake, Crude Palm Oil, Groundnut (in shell),

Groundnut expeller Oil, Cotton, Mentha oil, RBD Pamolein, RM

seed oil cake, Refined soya oil, Rape seeds, Mustard seeds,

Caster seed, Yellow soybean

Pulses:-

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Urad, Yellow peas, Chana, Tur, Masoor

Grain:-

Wheat, Indian Pusa Basmati Rice, Indian parboiled Rice (IR-

36/IR-64), Indian raw Rice (ParmalPR-106), Barley, Yellow

red maize

Spices:-

Jeera, Turmeric, Pepper

Plantation:-

Cashew, Coffee Arabica, Coffee Robusta

Fibers and other:-

Guar Gum, Guar seeds, Guar, Jute sacking bags, Indian 28

mm cotton, Indian 31mm cotton, Lemon, Grain Bold, Medium

Staple, Mulberry, Green Cottons, , , Potato, Raw Jute,

Mulberry raw Silk, V-797 Kapas, Sugar, Chilli LCA334

Energy:-

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Crude Oil, Furnace oil

Multi Commodity Exchange of India Limited (MCX)

Multi Commodity Exchange of India Limited (MCX) is an

independent and de-mutualized exchange with permanent reorganization

from Government of India, having Head Quarter in Mumbai. Key share

holders of MCX are Financial Technologies (India) Limited, State Bank

of India, Union Bank of India, Corporation Bank of India, Bank of India

and Canara Bank. MCX facilitates online trading, clearing and settlement

operations for commodity futures market across the country.

MCX started of trade in Nov 2003 and has built strategic alliance

with Bombay Bullion Association, Bombay Metal Exchange, Solvent

Extractors Association of India, pulses Importers Association and

Shetkari Sanghatana.

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MCX deals wit about 100 commodities.

Commodities Traded at MCX:-

Bullion:-

Gold, Silver, Silver Coins,

Minerals:-

Aluminum, Copper, Nickel, Iron/steel, Tin, Zinc, Lead

Oil and Oil seeds:-

Castor oil/castor seeds, Crude Palm oil/ RBD Pamolein,

Groundnut oil, Mustard/ Rapeseed oil, Soy seeds/Soy

meal/Refined Soy Oil, Coconut Oil Cake, Copra, Sunflower oil,

Sunflower Oil cake, Tamarind seed oil

Pulses:-

Chana, Masur, Tur, Urad, Yellow peas

Grains:-

Rice/ Basmati Rice, Wheat, Maize, Bajara, Barley,

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Spices:-

Pepper, Red Chili, Jeera, Cardamom, Cinnamon, Clove,

Ginger,

Plantation:-

Cashew Kernel, Rubber, Areca nut, Betel nuts, Coconut,

Coffee,

Fiber and others:-

Kapas, Kapas Khalli, Cotton (long staple, medium staple,

short staple), Cotton Cloth, Cotton Yarn, Gaur seed and

Guargum, Gur and Sugar, Khandsari, Mentha Oil, Potato, Art

Silk Yarn, Chara or Berseem, Raw Jute, Jute Goods, Jute

Sacking

Petrochemicals:-

High Density Polyethylene (HDPE), Polypropylene (PP), Poly

Vinyl Chloride (PVC)

Energy:-

Brent Crude Oil, Crude Oil, Furnace Oil, Middle East Sour

Crude Oil, Natural Gas

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National Multi Commodity Exchange of India Limited (NMCEIL)

National Multi Commodity Exchange of India Limited

(NMCEIL) is the first de-mutualised Electronic Multi Commodity

Exchange in India. On 25th July 2001 it was granted approval by

Government to organize trading in edible oil complex. It is being

supported by Central warehousing Corporation Limited, Gujarat

State Agricultural Marketing Board and Neptune Overseas Limited.

It got reorganization in Oct 2002. NMCEIL Head Quarter is at

Ahmedabad.

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Company Profile

Indian Commodity Exchange Limited


A Public—Private Partnership

Introduction

The commodities futures market in India is only about 3 times the size of

physical market, whereas it is more than 10 times the size of physical

market in other developed countries. Therefore, the current state of

commodities market in India leaves lot of scope for growth in terms of

depth and reach of the market as well as attracting new players who are

utilizing the services of overseas commodities market due to various

reasons like lack of depth in product category they wish to trade in

inadequate warehousing facilities at strategic locations, etc.


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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 Reliance Ex- change Next Infrastructure

Limited and MMTC Limited, Indiabulls Financial Services Ltd.

KRIBHCO ,Indian Potash Ltd., 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. We have head office located in Mumbai

and have regional offices spread across the country which covers agri

belt, with a vision to encourage participation of farmers, traders and

actual users to hedge their positions against the wide price fluctuations.

Corporate Vision

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ICEX would strive to achieve the following:

Provide fair, transparent and efficient trading platform to all

participants.

Meet the international benchmarks for the Indian commodity

market.

Provide equal opportunity and access to investors all Over the

country through the modern communication modes.

Attract a wide array of end users, financial intermediaries and

hedgers.

Become a major trading hub for most of the commodities.

To provide product portfolio to suit the trading Community

needs in an efficient manner

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Commodities traded

It provides the widest range of benchmark future products available on

any exchange, covering all major commodities. The collective vision is

global growth, innovative product development, continually enhanced

technology and the highest level of service available on any exchange .It

offers future trading in

• Agriculture Commodities

• Bullions

• Base Metals

• Energy

Its objective is to serve customers with a global product line, virtually

round-the-clock electronic trading and strategic alliances with other

leading players. It also offers a number of programs and products

designed specifically to appeal to a global audience.

Competitive advantage of Indian Commodity Exchange

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Key Differentiators

Impeccable lineage:

Joint venture between Public/Private entities

Well capitalized Rs.100 Cr initial capital

Reputation of partners and pan India presence

Key stake holders having rich experience in the domain viz.

commodities, warehousing, financial markets

Professionally driven exchange with an entrepreneurial mindset

Aim to remove discrepancy in the commodities market by

building transparency in the exchange

Unprecedented price transparency and market depth

Technology:

Speed and Accuracy of Application Software.

Unique features for faster trading compared to Indian software.

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Fault Tolerant Application Design.

The Electronic trading platform provided will provide rapid trade

execution and would be one of the world’s most flexible, efficient

and secure commodities trading systems.

The Electronic platform would be scalable and flexible, which

means new products and functionality can be added quickly and

without requiring users to upgrade their own systems.

Fully equipped with leading data security and encryption

Our platform solution will be easy to use, functionally rich and

offers built-in pre-trade risk management, a real-time order book

and deal ticker, and the industry1s most sophisticated spread

implication engine.

Fail over technology with an uptimeof99.99%

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Warehousing:

Effective delivery mechanism through public-private warehouses

with stringent quality control

MMTC and IPL1s existing warehouse facilities would be great

asset in ensuring delivery obligations of the market participants

Efficient delivery mechanism through accredited warehouses

Independent and professional logistical support

The exchange will strive for assaying and testing to be of the

highest standards so as to avoid quality disputes

Risk Management:

Maintaining Net Worth requirements

Price circuit filters

Margin requirements

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Position limits at Member I client level

MTM

Settlement guarantees Fund

Clearing and Settlement:

Efficient clearing and settlement system

Establishing Settlement guarantee fund

Provides the logical conclusion for the trade executed

Supplement the trading activities of the members by

processing the margin increase/release request

Work as a billing center for the exchange

Research and Analysis:

Effective Research and analysis (Fundamental/ Technical).

Skilled analysts with rich domain experience

In depth knowledge of the Commodities market

MMTCs domain expertise for designing ideal contracts

Customer Support:

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We ensure that appropriate guidelines are framed for investors and

investors are informed about their rights. We also conduct awareness

programmers for investors, redress their grievances and formulate

arbitration procedures.

Regional Commodity Exchanges

Reliance Exchange Next Reliance Exchange next Limited

(R Next), a subsidiary of Reliance Capital Ltd(RCL), is the new

initiative of RCL. R Next is spearheading the RCL’s entry in the

exchange business. R Next has setup Reliance Spot Exchange, ( RSX)

the national electronic spot market or e-mandi. RSX is present across the

value chain from trading, clearing, settlement and custody and offers a

wide spectrum of services covering e-auction, intermediation, storage,

assaying & grading etc. for the agriculture sector.

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Minerals & Metals Trading Corporation of India Limited , a

Government of India enterprise and the largest international trading

company of India. It is the largest exporter of Minerals and single

largest importer/ supplier of Bullion & Non-Ferrous Metals in India.

MMTC also leads in trading of agro products, fertilizers, coal,

hydrocarbons, textiles

lndiabulls Financial Services Limited is a part of lndiabulls group,

one of the top business houses in the country with business interests in

Real Estate, Infrastructure, Financial Services, Retail, Mul- tiplex and

Power sector. lndiabulls Financial Services is one of lndia’s leading and

fastest growing private sector financial services companies. It is an

integrated financial services powerhouse ranking among the top private

sector financial services and banking groups (in terms of net worth).

Krishak Bharati Cooperative Limited, a world premier fertilizer

producing cooperative society, registered under Multi- State Cooperative

Societies Act-1985, promoted by Govt. of India, IFFCO, NCDC and

other agricultural cooperative societies spread all over the country.

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Indian Potash Limited, the biggest canalizing agency (State Trading

Enterprise) for import of Urea and other fertilizers on behalf of

Government of India, is a major player in Indian Fertilizer Industry with

offices and dealers network across the country.

Infrastructure Development Finance Company Limited, a specialized

financial intermediary for infrastructure development has funded

integrated transportation, urban infrastructure, health care, food and

agri-business infrastructure, education infrastructure, tourism,

energy telecommunication and infrastructure technology projects. It has

taken key initiatives in providing leadership in rationalizing policy and

regulatory

How to become a Member?

Following types of entities are eligible to become members of Indian

Commodity Exchange Limited.,

• Individual I Proprietorship Firm

• Registered Partnership Firm

• Hindu Undivided Family (HUF)

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• Private Limited Company

• Public Limited Company

• Co-operative Societies

The membership of the exchange shall be open to all market

participants and depending on their specific needs, they offer various

categories of membership viz.

•Trading Member (TM)

•Trading cum Clearing Members (TCM)

•Professional Clearing Members (PCM)

•Institutional Trading cum Clearing Members (ITCM)

Chapter 3

Research Design

How Commodity market works?

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There are two kinds of trades in commodities. The first is the spot

trade, in which one pays cash and carries away the goods. The second is

futures trade. The underpinning for futures is the warehouse receipt. A

person deposits certain amount of say, good X in a ware house and gets a

warehouse receipt.

Which allows him to ask for physical delivery of the good from the

warehouse. But some one trading in commodity futures need not

necessarily posses such a receipt to strike a deal. A person can buy or

sale a commodity future on an exchange based on his expectation of

where the price will go. Futures have something called an expiry date, by

when the buyer or seller either closes (square off) his account or

give/take delivery of the commodity. The broker maintains an account of

all dealing parties in which the daily profit or loss due to changes in the

futures price is recorded. Squiring off is done by taking an opposite

contract so that the net outstanding is nil.

For commodity futures to work, the seller should be able to

deposit the commodity at warehouse nearest to him and collect the

warehouse receipt. The buyer should be able to take physical delivery at

a location of his choice on presenting the warehouse receipt. But at

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present in India very few warehouses provide delivery for specific

commodities.

Following diagram gives a fair idea about working of the

Commodity market.

Today Commodity trading system is fully computerized.

Traders need not visit a commodity market to speculate. With online

commodity trading they could sit in the confines of their home or office

and call the shots.

The commodity trading system consists of certain prescribed

steps or stages as follows:

I. Trading: - At this stage the following is the system implemented-

- Order receiving

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- Execution

- Matching

- Reporting

- Surveillance

- Price limits

- Position limits

II. Clearing: - This stage has following system in place-

- Matching

- Registration

- Clearing

- Clearing limits

- Notation

- Margining

- Price limits

- Position limits

- Clearing house.

III. Settlement: - This stage has following system followed as follows-

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- Marking to market

- Receipts and payments

- Reporting

- Delivery upon expiration or maturity.

How to invest in a Commodity Market?

With whom investor can transact a business?

An investor can transact a business with the approved clearing

member of previously mentioned Commodity Exchanges. The investor

can ask for the details from the Commodity Exchanges about the list of

approved members.

What is Identity Proof?

When investor approaches Clearing Member, the member will ask for

identity proof. For which Xerox copy of any one of the following can be

given

a) PAN card Number

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b) Driving License

c) Vote ID

d) Passport

What statements should be given for Bank Proof?

The front page of Bank Pass Book and a canceled cheque of a

concerned bank. Otherwise the Bank Statement containing details can be

given.

What are the particulars to be given for address proof?

In order to ascertain the address of investor, the clearing member will

insist on Xerox copy of Ration card or the Pass Book/ Bank Statement

where the address of investor is given.

What are the other forms to be signed by the investor?

The clearing member will ask the client to sign

a) Know your client form

b) Risk Discloser Document

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The above things are only procedure in character and the risk

involved and only after understanding the business, he wants to

transact business.

What aspects should be considered while selecting a commodity

broker?

While selecting a commodity broker investor should ideally keep

certain aspects in mind to ensure that they are not being missed in any

which way. These factors include

Net worth of the broker of brokerage firm.

The clientele.

The number of franchises/branches.

The market credibility.

The references.

The kind of service provided- back office functioning being most

important.

Credit facility.

The research team.

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These are amongst the most important factors to calculate the

credibility of commodity broker.

Broker:-

The Broker is essentially a person of firm that liaisons between

individual traders and the commodity exchange. In other words the

Commodity Broker is the member of Commodity Exchange, having

direct connection with the exchange to carry out all trades legally. He is

also known as the authorized dealer.

How to become a Commodity Trader/Broker of Commodity

Exchange?

To become a commodity trader one needs to complete certain

legal and binding obligations. There is routine process followed, which is

stated by a unit of Government that lays down the laws and acts with

regards to commodity trading. A broker of Commodities is also required

to meet certain obligations to gain such a membership in exchange.

To become a member of Commodity Exchange the broker of

brokerage firm should have net worth amounting to Rs. 50 Lakh. This

sum has been determined by Multi Commodity Exchange.

43

How to become a Member of Commodity Exchange?

To become member of Commodity Exchange the person

should comply with the following Eligibility Criteria.

1. He should be Citizen of India.

2. He should have completed 21 years of his age.

3. He should be Graduate or having equivalent qualification.

4. He should not be bankrupt.

5. He has not been debarred from trading in Commodities by

statutory/regulatory authority,

There are following three types of Memberships of Commodity

Exchanges.

Trading-cum-Clearing Member (TCM):-

A TCM is entitled to trade on his own account as well as on account

of his clients, and clear and settle trades himself. A sole proprietor,

Partnership firm, a joint Hindu Undivided Family (HUF), a corporate

entity, a cooperative society, a public sector organization or any other

Government or non-Government entity can become a TCM.

44

There are two types of TCM, TCM-1 and TCM-2. TCM-1

refers to transferable non-deposit based membership and TCM-2 refers to

non-transferable deposit based membership.

A person desired to register as TCM is required to submit an

application as per the format prescribed under the business rules, along

with all enclosures, fee and other documents specified therein. He is

required to go through interview by Membership Admission Committee

and committee is also empowered to frame rules or criteria relating to

selection or rejection of a member.

Institutional Trading-cum-clearing Member (ITCM):-

Only an Institution/ Corporate can be admitted by the Exchange as

a member, conferring upon them the right to trade and clear through the

clearing house of exchange as an Institutional Trading-cum-clearing

Member (ITCM). The member may be allowed to make deals for himself

as well as on behalf of his clients and clear and settle such deals. ITCMs

can also appoint sub-brokers, authorized persons and Trading Members

who would be registered as trading members.

45

Professional Clearing Member (PCM):-

A PCM entitled to clear and settle trades executed by other members

of the exchange. A corporate entity and an institution only can apply for

PCM. The member would be allowed to clear and settle trades of such

members of the Exchange who choose to clear and settle their trades

through such PCM.

Membership Details for NCDEX:-

Trading-cum-clearing Member: - TCM

Sr.

No

.

ParticularsNCDEX:

TCM

1Interest Free Cash

Security Deposit 15.00 Lakhs

2Collateral Security

Deposit 15.00 Lakhs

3 Admission Fee 5.00 Lakhs

4 Annual Membership 0.50 Lakhs

46

Fees

5Advance Minimum

Transaction Charges 0.50 Lakhs

6Net worth

Requirement 50.00 Lakhs

Professional Clearing Membership: - PCM

Sr.

No

.

ParticularsNCDEX:

PCM

1Interest Free Cash

Security Deposit 25.00 Lakhs

2

Collateral Security

Deposit 25.00 Lakhs

3Annual Subscription

Charges1.00 Lakhs

4Advance Minimum

Transaction Charges 1.00 Lakhs

5 Net worth 5000.00

47

Requirement Lakhs

Membership Details for MCX:-1

Catego

ry

Admissi

on

Fees

Initial

Securit

y

Deposit

Annual

Subscriptio

n

Net worth Criteria

Corpora

te

Partnersh

ip

Individu

al

TCM-

1

Rs. 10

Lakhs

Rs. 15

LakhsRs 50,000

Rs 50

Lakhs

Rs. 50

Lakhs

Rs. 50

Lakhs

TCM-

2

Rs. 5

Lakhs

Rs. 50

LakhsRs 50,000

Rs. 50

Lakhs

Rs. 50

Lakhs

Rs. 50

Lakhs

ITCMRs. 10

Lakhs

Rs. 50

LakhsRs 50,000

Rs. 50

LakhsN.A. N.A.

PCM NilRs. 50

LakhsRs 1,00,000

Rs.

5CroresN.A. N.A.

1 MCX Certified Commodity Professional Reference Material

48

Current Scenario in Indian Commodity Market

Need of Commodity Derivatives for India:-

India is among top 5 producers of most of the Commodities, in

addition to being a major consumer of bullion and energy products.

Agriculture contributes about 22% GDP of Indian economy. It

employees around 57% of the labor force on total of 163 million hectors

of land Agriculture sector is an important factor in achieving a GDP

growth of 8-10%. All this indicates that India can be promoted as a major

centre for trading of commodity derivatives.

Trends in volume contribution on the three National Exchanges:-

49

Pattern on Multi Commodity Exchange (MCX):-

MCX is currently largest commodity exchange in the country in terms

of trade volumes, further it has even become the third largest in bullion

and second largest in silver future trading in the world.

Coming to trade pattern, though there are about 100 commodities

traded on MCX, only 3 or 4 commodities contribute for more than 80

percent of total trade volume. As per recent data the largely traded

commodities are Gold, Silver, Energy and base Metals. Incidentally the

futures’ trends of these commodities are mainly driven by international

futures prices rather than the changes in domestic demand-supply and

hence, the price signals largely reflect international scenario.

Among Agricultural commodities major volume contributors

include Gur, Urad, Mentha Oil etc. Whose market sizes are considerably

small making then vulnerable to manipulations.

Pattern on National Commodity & Derivatives Exchange (NCDEX):-

NCDEX is the second largest commodity exchange in the

country after MCX. However the major volume contributors on NCDEX

are agricultural commodities. But, most of them have common inherent

problem of small market size, which is making them vulnerable to

50

market manipulations and over speculation. About 60 percent trade on

NCDEX comes from guar seed, chana and Urad (narrow commodities as

specified by FMC).

Pattern on National Multi Commodity Exchange (NMCE):-

NMCE is third national level futures exchange that has been largely

trading in Agricultural Commodities. Trade on NMCE had considerable

proportion of commodities with big market size as jute rubber etc. But, in

subsequent period, the pattern has changed and slowly moved towards

commodities with small market size or narrow commodities.

Analysis of volume contributions on three major national

commodity exchanges reveled the following pattern,

Major volume contributors: - Majority of trade has been concentrated

in few commodities that are

Non Agricultural Commodities (bullion, metals and energy)

Agricultural commodities with small market size (or narrow

commodities) like guar, Urad, Mentha etc.

51

Trade strategy:-

It appears that speculators or operators choose commodities or

contracts where the market could be influenced and extreme speculations

possible.

In view of extreme volatilities, the FMC directs the exchanges to

impose restrictions on positions and raise margins on those commodities.

Consequently, the operators/speculators chose another commodity and

start operating in a similar pattern. When FMC brings restrictions on

those commodities, the operators once again move to the other

commodities. Likewise, the speculators are moving from one commodity

to other (from methane to Urad to guar etc) where the market could be

influenced either individually or with a group.

Beneficiaries: - So far the beneficiaries from the current nature of

trading are

Exchangers: - making profit from mounting volumes

Arbitragers

Operators

52

In order to understand the extent of progress the trading the

trading in Commodity Derivatives has made towards its specified

objectives (price discovery and price risk management), the current

trends are juxtaposed against the specification

Specified and actual pattern of futures trade:-

Process Aught to be Actual

Commodi

ties

There should be large

demand for and supply

of

the commodity- no

individual or a group

of

persons acting in

concert

should be in a position

to

influence the demand

or

Largely Traded are

Bullion, Metals and

Commodities with

small

market size (or narrow

Commodities) like

guar,

Burmese Urad, Mentha

etc.

53

supply, and

consequently

the price substantially

Towards this, the major

Produced or consumed

Commodities in the

Country such as wheat,

rice, jute etc. and India

is the

top first or second

producer of these

Commodities.

Trade

Strategy

Hedging together with

Moderate speculation to

Smoothen the price

Fluctuations.

Over speculation and

Manipulation leading to

wide

Fluctuations.

Beneficia

ries

Farmers/producers,,

Consumers and traders

Either through direct

So far exchangers,

arbitrageurs,

Operators etc.,

54

Participation or through

Price signals.

Further there were

instances of

Wrong price signals

accruing losses to farmers in

case of menthe, and to

traders in case

Of imported pulses.

Objective

s

Price Discovery Pure replication of

International trends

not

Taking in account of

Domestic D-S in case

of

Non-agril.

Commodities

Wide fluctuations

from

Over speculation and

Manipulation in case

of

55

Largely traded agril.

Commodities

Risk Management No such evidences and

contrarily, the extreme

volatilities in certain

commodities are making

futures

More risky for participants.

Thus it is evident that the realization of specified objectives is still a

distinct destination. It is further, evident from the nature of the

commodities largely traded on national exchanges that the factors driving

the current pattern of futures trade are purely speculative.

Reasons for prevailing trade pattern:-

No wide spread participation of all stake holders of commodity

markets. The actual benefits may be realized only when all the stake

holders in commodity market including producers, traders, consumers etc

trade actively in all major commodities like rice, wheat, cotton etc.

56

Some Suggestions to make futures market as a level playing field for all

stake holders:-

Creation of awareness among farmers and other rural

participants to use the futures trading platform for risk

mitigation.

Contract specifications should have wider coverage, so that a

large number of varieties produced across the country could be

included.

Development of warehousing and facilities to use the

warehouse receipt as a financial instrument to encourage

participation farmers.

Development of physical market through uniform grading and

standardization and more transparent price mechanisms.

Delivery system of exchanges is not good enough to attract

investors. E.g.- In many commodities NCDEX forces the

delivery on people with long position and when they tend to

give back the delivery in next month contract the exchange

simply refuses to accept the delivery on pretext of quality

difference and also auctions the product. The traders have to

take a delivery or book losses at settlement as there are huge

57

differences between two contracts and also sometimes few

contracts are not available for trading for no reason at all.

Contract sizes should have an adequate range so that smaller

traders can participate and can avoid control of trading by few

big parties.

Setting of state level or district level commodities trading

helpdesk run by independent organization such as reputed NGO

for educating farmers.

Warehousing and logistics management structure also needs to

be created at state or area level whenever commodity

production is above a certain share of national level.

Though over 100 commodities are allowed for Derivatives

trading, in practice only a few commodities derivatives are

popular for trading. Again most of the trade takes place only on

few exchanges. This problem can possibly solved by

consolidating some exchanges.

Only about 1% to 5% of total commodity derivatives traded in

country are settled in physical delivery due to insufficiencies in

present warehousing system. As good delivery system is the

58

back bone of any Commodity trade, warehousing problem has

to be handled on a war footing.

At present there are restrictions in movement of certain goods

from one state to another. These needs to be removed so that a

truly national market could develop for commodities and

derivatives.

Regulatory changes are required to bring about uniformity in

Octri and sales tax etc. VAT has been introduced in country in

2005, but, has not yet been uniformly implemented by all

states.

A difficult problem in Cash settlement of Commodities

Derivatives contract is that, under Forward Contracts

Regulation Act 1952 cash settlement of outstanding contracts at

maturity is not allowed. That means outstanding contracts at

maturity should be settled in physical delivery. To avoid this

participants square off their their positions before maturity. So

in practice contracts are settled in Cash but before maturity.

There is need to modify the law to bring it closer to the wide

spread practice and save participants from unnecessary hassle

59

Commodities

Steel: -

General Characteristics: -

Steel is an alloy of iron and carbon, containing less than 2%

carbon, 1% manganese and small amount of silicon, phosphorus, sulphur

and oxygen. Steel is most important engineering and construction

material in the world. It is most important, multi functional and the most

adaptable of materials. Steel production is 20 times higher a compared to

production of all non-ferrous metals put together.

Steel compared to other materials of its type has low production

costs. The energy required for extracting iron from ore is about 25% of

what is needed for extracting aluminum.

60

There are altogether about 2000 grades of steel developed of

which 1500 grades are high-grade steels. The large number of grades

gives steel the characteristics of basic production material.

Categories of Steel: -

Steel market is primarily divided in to two main categories- flat

and long. A flat carbon steel product is a plate product or a (hot or cold)

rolled strip product. Plate products vary in dimensions from 10 mm to

200 mm and thin flat rolled products from 1 mm to 10 mm. Plate

products are used for ship building, construction, large diameter welded

pipes and boiler applications. Thin flat products find end use applications

in automotive body panels, domestic ‘white goods’ products, ‘tin cans’

and the whole host of other products from office furniture to heart

pacemakers. Plates, HR coils and HR Sheet, CR Sheet and CR coils,

GP/GC (galvanized plates and coils) pipes etc. are included in this

category.

A long steel product is a road or a bar. Typical rod product are

the reinforcing rods made from sponge iron for concrete, ingots, billets,

engineering products, gears, tools, etc. Wiredrawn products and seamless

61

pipes are also part of the long products group. Bars, rods, structures,

railway materials, etc are included in this category.

Sponge Iron/ Direct reduced iron (DRI): This is a high

quality product produced by reducing iron ore in a solid state and is

primarily used as an iron input in electric arc furnace (EAF) steel making

process. This industry is an integral part of the steel sector. India is one

of the leading countries in terms of sponge iron production. There are a

number of coal-based sponge iron/DRI plants (in the eastern and central

region) and also three natural gas based plants (in western part of the

country) in the country.

Global Scenario: -

The total output of the word crude steel in 2006 stood at 945

million tons, resulting in a growth of 6.7% over the previous year.

China is the word’s largest crude steel producer in the year 2006

with around 220.12 million tons of steel production, followed by Japan

and USA. USA was largest importer of steel products, both finished and

semi finished, in 2005, followed by China and Germany.

The words largest exporter of semi-finished and finished steel was

Japan in 2005, followed by Russia and Ukraine.

62

China is the largest consumer now and consumption of steel by

China is estimated to increase by 12-13% in 2007.

Indian Scenario: -

India is the 8th largest producer of the steel with an annual

production of 36.193 million tons, while the consumption is around 30

million tons.

Iron & steel can be freely exported and imported from India.

India is a net exporter of steel.

The Government of India has taken a number of policy

measures, such as removal of iron & steel industry from the list of

industries reserved for public sector, deregulation of price and

distribution of iron & steel and lowering import duty on capital goods

and raw materials, since liberalization for the growth and development of

Indian iron & steel industry.

After liberalization India has seen huge scale addition to its steel

making capacity. The country faces shortage of iron and steel materials.

Factors Influencing Demand & Supply of Steel Long and Steel Flat: -

63

The demand for steel is dependent on the overall health of the

economy and the in fracture development activities being undertaken.

The steel prices in the Indian market primarily depend on the domestic

demand and supply conditions, and international prices. Government and

different producer and consumer associations regularly monitor steel

prices.

The duty imposed on import of steel and its fractions also have an

impact on steel prices. The price trend in steel in Indian markets has been

a function of World’s economic activity. Prices of input materials of iron

and steel such as power tariff, fright rates and coal prices, also contribute

to the rise in the input costs for steel making.

Monthly Variations in Steel Prices from Feb 2005- Dec 2006: -2

2 MCX certified Commodity Professional Reference Material.

64

Contract specifications of Steel Flat

Symbol STEELFLAT

Description STEELFLATMMMYY

Trading Period Mondays through Saturdays

Trading session Monday to Friday:

1st session: 10.00 am to 5.00 pm

2nd session: 5.30 pm to 8.00 pm

Saturday: 10.00 am to 2.00 pm

No. of contracts a year 12

Contact Duration 4 months

Percentage

Change

>

5%

2-5% < 2%

No. of Times

Ingots- Mandi 2 10 10

HRC 2.5 Mumbai 8 3 11

HRC 2.0

Imported

12 4 6

HRC fob- Europe 5 9 8

65

Trading

Trading unit 25 MT

Price Quote Rs./ton, Ex-Taloj Kalambo

(excluding execise duty and sales tax).

Maximum order size 200 MT

Tick size (minimum

Price movement)

Rs. 10

Daily price limits 4%

Initial margin 5%

Special margin In case of additional volatility, a special

margin of 2% or such other percentage,

as deemed fit, will be imposed

immediately on, both buy and sale side

in respect of all outstanding position,

which will remain in force of next three

days, after which the special margin

will be relaxed.

Maximum Allowable

Open Position

For individual clients: 1,00,000 MT

For a member collectively for all

clients:

66

25% of open market position.

Delivery

Delivery unit 25 MT with tolerance limit

Between 23.5 MT to 26.5 MT

Delivery Center(s) Warehouses at Taloja/ Kalamboli

Quality Specifications

HR coil conforming to the following specification:

Thickness 2 mm

Width either 1250mm or 910 mm at seller’s option.

It should confirm to IS 11513 Grade D/SAE 1008

(International equivalent)

Delivery is acceptable only in coil form.

Contract specifications of Steel Long

Symbol STEELLONG

67

Description STEELLONGMMMYY



1st session: 10.00 am to 5.00 pm

2nd session: 5.30 pm to 8.00 pm

Saturday: 10.00 am to 2.00 pm

No. of contracts a year 12

Contact Duration 4 months

Trading

Trading unit 15 MT

Price Quote Rs./ton, Ex- Mandi Gobindgarh

(including excise duty but excluding

sales tax).


Tick size (minimum

Price movement)

Rs. 10


Initial margin 5%


margin of 2% or such other percentage,

68

as deemed fit, will be imposed

immediately on, both buy and sale side

in respect of all outstanding position,

which will remain in force of next three

days, after which the special margin

will be relaxed.

Maximum Allowable

Open Position

For individual clients: 1,00,000 MT

For a member collectively for all

clients:

25% of open market position.

Delivery

Delivery unit 15 MT with tolerance limit

Between 13.5 MT to 16.5 MT

Delivery Center(s) Warehouses at Mandi Gobindgarh


Mild steels ingots “3 ½ * 4 ½ inch”

Carbon composition: Below 0.25%

Manganese: Above 0.45%

Material should be physically sound. It should have no

hollowness, no piping no rising. Its surface should be plain.

69

Quality Specifications: -

Sponge Iron Futures

Sponge Iron Lumps

Chemical Properties (only Magnetic Portion): -

Degree of Metallization: 88 +/- 2%.

Total Iron: 91%.

Carbon: 0.2% to 0.3%.

Sulphur: 0.05% Max.

Phosphorus: 0.06 Max.

Sio2 + Al2o3: 6% or Max.

Char & other process Contaminants: 1% Max.

Size: 3 to 20 mm

Undersize arising during tailings (-3mm): 5% Max

70

Steel Flat: -

HR Coil confirming to the following specification: -

Thickness 2mm

Width either 1250 mm or 910 mm at seller’s option.

It should confirm to IS 11513 Grade D/ SALE 1008

(international equivalent)

Delivery is acceptable only in coil form.

Steel Long (Bhavnagar): -

Mild steel ingots 3 ½ * 4 ½ inch.



Material should be physically sound. It should have no hollowness,

no piping and no rising. Its surface should be plain.

Steel Long (Govindgarh): -

Mild steel ingots 3 ½ * 4 ½ inch.



Material should be physically sound. It should have no hollowness,

no piping and no rising. Its surface should be plain.

71

WHEAT

Wheat is cereal grain and consumed worldwide. Wheat is more

popular than any other cereal grain for use in baked goods. Its popularity

stems from the gluten that forms when lour is mixes with water. Wheat is

the most widely grown cereal grain in the world.

Global and Indian Scenario: -

The world wheat production in the recent years has been

observed to be hovering between 555 million tons to 625 million tons a

year. The biggest cultivators of wheat are EU 25, China, India, USA,

Russia, Australia, Canada, Pakistan, Turkey and Argentina. EU 25,

China, India and US are the four largest producers account for around

60% of total global production.

World’s wheat consumption is continuously growing with

growth in a population, as it is one of the major staple foods across the

world. The major consuming countries of wheat are EU, China, India,

Russia, USA and Pakistan. India has largest area in the world under

wheat. However, in terms of production, India is second largest behind

China. In India, Wheat is sown during October to December and

72

harvested during March to May. The wheat marketing season in India is

assumed to begin from April every year.

The major wheat producing states in India are Utter Pradesh,

Punjab, Haryana, Madhya Pradesh, Rajastan and Bihar. Which together

account for around 93% of total production. In terms of productivity,

Punjab stands first followed by Haryana, Rajastan, UP, Gujarat, Bihar

and MP. Indian wheat is largely soft/medium hard, medium protein,

bread wheat. India is also produces around 1.5 million tons of durum

wheat, mostly in central and western India, which is not segregated and

marketed separately. India consumes around 72-74 million tons of Wheat

every year.

There are around 1000 large flourmills in India, with a milling

capacity of around 15 million tons. The total procurement of wheat by

Government agencies during last 15 years from 8 to 20 million tons,

accounting for only 15-20% of the total production. India exported

around 5 m illion tons subsidized by Government in 2004-05, as a result

of surplus stock. Recently Govt. took decision to import wheat in view

of, declining stocks and increasing demand.

Key market moving Factors: -

73

Price tends to be lower as harvesting progresses and produce starts

coming in to the market. At the time sowing and before harvesting price

tend to rise in a view of tight supply situation. Weather has profound

influence on wheat production. Temperature plays crucial role towards

maturity of wheat and productivity.

Change in Minimum Support Price (MSP) by Govt. and the stock

available with Food corporation of India and the release from official

stock influence of the price. Though, international trade is limited, the

ups and downs in the production and consumption at all the major/minor

producing and consuming nation dose influence the long term price

trend.

Contract specifications of Wheat

Contract Period Five Months



10.00 am to 5.00 pm

Saturday:

10.00 am to 2.00 pm

Trading

74

Trading unit 10 MT

Quotation based value 1 Quintal


Tick size (minimum

Price movement)

10 Paise

Price Quotation Ex-warehouse Delhi (including all

taxes, levies and sales tax/ VAT, as the

case may be)


Initial margin 5%


margin at such other percentage, as

deemed fit will be imposed immediately

on, both buy and sale side in respect of

all outstanding position, which will

remain in force of next 2 days, after

which the special margin will be

relaxed.

Maximum Allowable

Open Position

Clientwise- 20000 MT, Member wise-

80000 MT or 20% of open position,

75

which ever is higher.

Delivery

Delivery unit 10 MT with tolerance limit of 5%

Delivery Margin 25%

Delivery Center(s) Warehouses at Delhi


Wheat of Standard Mill variety confirming to the following

quality standerds will be delieverable. The material will be tested

using a 3mm sieve.

Defects

(a) Foreign Matter

(organic/inorganic)

2.0% (Max)

(b) Damaged Kernels 2.00 (Max) provided that infestation

damaged not to exceed 1 per 100 kernels.

(c) Shrunken

Shriveled

3.00% (Max)

76

& broken grains

Total defects (a+b+c)

Acceptable up to

Rejected total defect is

Below 6%

8% With rebate on 1:1 basis

Above 8%

Teat weight up to 76

kg/hl

76kg/hl. Min. acceptable with rebate of

150 grams per kg/hl or pro-rata variance

in hector liter weight deducted per quintal

Below 74 kg/hl

Rejected Below 74 kg/hl

Moisture

Acceptable

Reject able

11%

(Max)13% With rebate 1:1

Above 13%

Quality Specifications: -

Wheat of Standard Mill variety conforming to the following quality

standards will be deliverable; The material will be tested by using 3 mm

sieve.

Defects: -

77

1. Foreign Matter

(organic/inorganic)

2. Damaged Kernel

3. Sunken, Shriveled and

Broken grains

Total Defects (a+b+c)

Acceptable

Rejected if total defects

2.0% (maximum)

2.0% (maximum) provided that

infestation damaged not exceed 1

Per 100 kernels.

3.00% (maximum)

Below 6%

Up to 8% with rebate on 1:1 basis

Above 8%

Total Weight

Up to 74 kg/hl

Below 74 kg/hl

76 kg/hl. (minimum)

Acceptable with rebate of 150

grams per kg/hl or pro-rata

variance in hector liter weight

deducted per quintal weight

delivered.

Rejected

Moisture

Acceptable

Reject able

11% (maximum)

Up to 13% with rebate 1:1

Above 135

Packing Packing should be in B Twill once

78

used 100kg jute bags, the tare

weight deduction per bag for net

weight calculation shall be 1 kg

per quintal of gross weight.

79

ANNEXURE

Terms and Definitions related to Commodity Market: -

Accruals:- Commodities on hand ready for shipment, storage and

manufacture

80

Arbitragers: - Arbitragers are interested in making purchase and

sale in different markets at the same time to profit from price

discrepancy between the two markets.

At the Market: - An order to buy or sell at the best price possible

at the time an order reaches the trading pit.

Basis: - Basis is the difference between the cash price of an asset

and futures price of the underlying asset. Basis can be negative or

positive depending on the prices prevailing in the cash and futures.

Basis grade: - Specific grade or grades named in the exchanges

future contract. The other grades deliverable are subject to price of

underlying futures

Bear: - A person who expects prices to go lower.

Bid: - A bid subject to immediate acceptance made on the floor of

exchange to buy a definite number of futures contracts at a specific

price.

81

Breaking: - A quick decline in price.

Bulging: - A quick increase in price.

Bull: - A person who expects prices to go higher.

Buy on Close: - To buy at the end of trading session at the price

within the closing range.

Buy on opening: - To buy at the beginning of trading session at a

price within the opening range.

Call: - An option that gives the buyer the right to a long position in

the underlying futures at a specific price, the call writer (seller) may

be assigned a short position in the underlying futures if the buyer

exercises the call.

Cash commodity: - The actual physical product on which a futures

contract is based. This product can include agricultural

82

commodities, financial instruments and the cash equivalent of index

futures.

Close: - The period at the end of trading session officially

designated by exchange during which all transactions are

considered made “at the close”.

Closing price: - The price (or price range) recorded during the

period designated by the exchange as the official close.

Commission house: - A concern that buys and sells actual

commodities or futures contract for the accounts of customers.

Consumption Commodity: - Consumption commodities are held

mainly for consumption purpose. E.g. Oil, steel

Cover: - The cancellation of the short position in any futures

contract buys the purchase of an equal quantity of the same futures

contract.

83

Cross hedge: - When a cash commodity is hedged by using futures

contract of other commodity.

Day orders: - Orders at a limited price which are understood to be

good for the day unless expressly designated as an open order or

“good till canceled” order.

Delivery: - The tender and receipt of actual commodity, or in case

of agriculture commodities, warehouse receipts covering such

commodity, in settlement of futures contract. Some contracts settle

in cash (cash delivery). In which case open positions are marked to

market on last day of contract based on cash market close.

Delivery month: - Specified month within which delivery may be

made under the terms of futures contract.

Delivery notice: - A notice for a clearing member’s intention to

deliver a stated quantity of commodity in settlement of a short

futures position.

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Derivatives: - These are financial contracts, which derive their

value from an underlying asset. (Underlying assets can be equity,

commodity, foreign exchange, interest rates, real estate or any other

asset.) Four types of derivatives are trades forward, futures, options

and swaps. Derivatives can be traded either in an exchange or over

the counter.

Differentials: - The premium paid for grades batter than the basis

grade and the discounts allowed for the grades. These differentials

are fixed by the contract terms on most exchanges.

Exchange: - Central market place for buyers and sellers.

Standardized contracts ensure that the prices mean the same to

everyone in the market. The prices in an exchange are determined

in the form of a continuous auction by members who are acting on

behalf of their clients, companies or themselves.

Forward contract: - It is an agreement between two parties to buy

or sell an asset at a future date for price agreed upon while signing

agreement. Forward contract is not traded on an exchange. This is

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oldest form of derivative contract. It is traded in OTC Market. Not

on an exchange. Size of forward contract is customized as per the

terms of agreement between buyer and seller. The contract price of

forward contract is not transparent, as it is not publicly disclosed.

Here valuation of open position is not calculated on a daily basis

and there is no requirement of MTM. Liquidity is the measure of

frequency of trades that occur in a particular commodity forward

contract is less liquid due to its customized nature. In forward

contracts, counter- party risk is high due to customized & bilateral

nature of the transaction. Forward contract is not regulated by any

exchange. Forward contract is generally settled by physical

delivery. In this case delivery is carried out at delivery center

specified in the customized bilateral agreement.

Futures Contract:- It is an agreement between two parties to buy

or sell a specified and standardized quantity and quality of an asset

at certain time in the future at price agreed upon at the time of

entering in to contract on the futures exchange. It is entered on

centralized trading platform of exchange. It is standardized in terms

of quantity as specified by exchange. Contract price of futures

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contract is transparent as it is available on centralized trading screen

of the exchange. Here valuation of Mark-to-Mark position is

calculated as per the official closing price on daily basis and MTM

margin requirement exists. Futures contract is more liquid as it is

traded on the exchange. In futures contracts the clearing-house

becomes the counter party to each transaction, which is called

novation. Therefore, counter party risk is almost eliminated. A

regulatory authority and the exchange regulate futures contract.

Futures contract is generally cash settled but option of physical

settlement is available. Delivery tendered in case of futures contract

should be of standard quantity and quality as specified by the

exchange.

Futures commission merchant: - A broker who is permitted to

accept the orders to buy and sale futures contracts for the

consumers.

Futures Funds: - Usually limited partnerships for investors who

prefer to participate in the futures market by buying shares in a fund

managed by professional traders or commodity trading advisors.

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Futures Market:-It facilitates buying and selling of standardized

contractual agreements (for future delivery) of underlying asset as

the specific commodity and not the physical commodity itself. The

formulation of futures contract is very specific regarding the quality

of the commodity, the quantity to be delivered and date for

delivery. However it does not involve immediate transfer of

ownership of commodity, unless resulting in delivery. Thus, in

futures markets, commodities can be bought or sold irrespective of

whether one has possession of the underlying commodity or not.

The futures market trade in futures contracts primarily for the

purpose of risk management that is hedging on commodity stocks

or forward buyers and sellers. Most of these contracts are squared

off before maturity and rarely end in deliveries.

Hedging: - Means taking a position in futures market that is

opposite to position in the physical market with the objective of

reducing or limiting risk associated with price.

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In the money: - In call options when strike price is below the price

of underlying futures. In put options, when the strike price is above

the underlying futures. In-the-money options are the most

expensive options because the premium includes intrinsic value.

Index Futures: - Futures contracts based on indexes such as the S

& P 500 or Value Line Index. These are the cash settlement

contracts.

Investment Commodities: - An investment commodity is

generally held for investment purpose. e.g. Gold, Silver

Limit: - The maximum daily price change above or below the price

close in a specific futures market. Trading limits may be changed

during periods of unusually high market activity.

Limit order: - An order given to a broker by a customer who has

some restrictions upon its execution, such as price or time.

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Liquidation: - A transaction made in reducing or closing out a long

or short position, but more often used by the trade to mean a

reduction or closing out of long position.

Local: - Independent trader who trades his/her own money on the

floor of the exchanges. Some local act as a brokers as well, but are

subject to certain rules that protect customer orders.

Long: - (1) The buying side of an open futures contract or futures

option; (2) a trader whose net position in the futures or options

market shows an excess of open purchases over open sales.

Margin: - Cash or equivalent posted as guarantee of fulfillment of

a futures contract (not a down payment).

Margin call: - Demand for additional funds or equivalent because

of adverse price movement or some other contingency.

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Market to Market: - The practice of crediting or debating a

trader’s account based on daily closing prices of the futures

contracts he is long or short.

Market order: - An order for immediate execution at the best

available price.

Nearby: - The futures contract closest to expiration.

Net position: - The difference between the open contracts long and

the open contracts short held in any commodity by any individual

or group.

Offer: - An offer indicating willingness to sell at a given price

(opposite of bid).

On opening: - A term used to specify execution of an order during

the opening.

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Open contracts: - Contracts which have been brought or sold

without the transaction having been completed by subsequent sale,

repurchase or actual delivery or receipt of commodity.

Open interest: - The number of “open contracts”. It refers to

unliquidated purchases or sales and never to their combined total.

Option: - It gives right but not the obligation to the option owner,

to buy an underlying asset at specific price at specific time in the

future.

Out-of-the money: - Option calls with the strike prices above the

price of the underlying futures, and puts with strike prices below

the price of the underlying futures.

Over the counter: - It is alternative trading platform, linked to

network of dealers who do not physically meet but instead

communicates through a network of phones & computers.

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Pit: - An octagonal platform on the trading floor of an exchange,

consisting of steps upon which traders and brokers stand while

trading (if circular called ring).

Point: - The minimum unit in which changes in futures prices may

be expressed (minimum price fluctuation may be in multiples of

points).

Position: - An interest in the market in the form of open

commodities.

Premium: - The amount by which a given futures contract’s price or

commodity’s quality exceeds that of another contract or commodity

(opposite of discount). In options, the price of a call or put, which

the buyer initially pays to the option writer (seller).

Price limit: - The maximum fluctuation in price of futures contract

permitted during one trading session, as fixed by the rules of a

contract market.

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Purchase and sales statement: - A statement sent by FMC to a

customer when his futures option has been reduced or closed out

(also called ‘P and S”)

Put: - In options the buyer of a put has the right to continue a short

position in an underlying futures contract at the strike price until the

option expires; the seller (writer) of the put obligates himself to

take a long position in the futures at the strike price if the buyer

exercises his put.

Range: - The difference between high and low price of the futures

contract during a given period.

Ratio hedging: - Hedging a cash position with futures on a less or

more than one-for-one basis.

Reaction: - The downward tendency of a commodity after an

advance.

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Round turn: - The execution of the same customer of a purchase

transaction and a sales transaction which offset each other.

Round turn commission: - The cost to the customer for executing

a futures contract which is charged only when the position is

liquidated.

Scalping: - For floor traders, the practice of trading in and out of

contracts through out the trading day in a hopes for making a series

of small profits.

Settlement price: - The official daily closing price of futures

contract, set by the exchange for the purpose of setting margins

accounts.

Short: - (1) The selling of an option futures contract. (2) A trader

whose net position in the futures market shows an excess of open

sales over open purchases.

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Speculator: - Speculator is an additional buyer of the commodities

whenever it seems that market prices are lower than they should be.

Spot Markets:-Here commodities are physically brought or sold on

a negotiated basis.

Spot price: - The price at which the spot or cash commodity is

selling on the cash or spot market.

Spread: - Spread is the difference in prices of two futures

contracts.

Striking price: - In options, the price at which a futures position

will be established if the buyer exercises (also called strike or

exercise price).

Swap: - It is an agreement between two parties to exchange

different streams of cash flows in future according to predetermined

terms.

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Technical analysis (charting): - In price forecasting, the use of

charts and other devices to analyze price-change patters and

changes in volume and open interest to predict future market trends

(opposite of fundamental analysis).

Time value: - In options the value of premium is based on the

amount of time left before the contract expires and the volatility of

the underlying futures contract. Time value represents the portion

of the premium in excess of intrinsic value. Time value diminishes

as the expiration of the options draws near and/or if the underlying

futures become less volatile.

Volume of trading (or sales): - A simple addition of successive

futures transactions (a transaction consists of a purchase and

matching sale).

Writer: - A sealer of an option who collects the premium payment

from the buyer.

Summary

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This decade is termed as Decade of Commodities.

Prices of all commodities are heading northwards due to rapid

increase in demand for commodities. Developing countries like

China are voraciously consuming the commodities. That’s why

globally commodity market is bigger than the stock market.

India is one of the top producers of large number of

commodities and also has a long history of trading in commodities

and related derivatives. The Commodities Derivatives market has

seen ups and downs, but seems to have finally arrived now. The

market has made enormous progress in terms of Technology,

transparency and trading activity. Interestingly, this has happened

only after the Government protection was removed from a number

of Commodities, and market force was allowed to play their role.

This should act as a major lesson for policy makers in developing

countries, that pricing and price risk management should be left to

the market forces rather than trying to achieve these through

administered price mechanisms. The management of price risk is

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going to assume even greater importance in future with the

promotion of free trade and removal of trade barriers in the world.

As majority of Indian investors are not aware of

organized commodity market; their perception about is of risky to

very risky investment. Many of them have wrong impression

about commodity market in their minds. It makes them specious

towards commodity market. Concerned authorities have to take

initiative to make commodity trading process easy and simple.

Along with Government efforts NGO’s should come forward to

educate the people about commodity markets and to encourage

them to invest in to it. There is no doubt that in near future

commodity market will become Hot spot for Indian farmers rather

than spot market. And producers, traders as well as consumers

will be benefited from it. But for this to happen one has to take

initiative to standardize and popularize the Commodity Market.

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BIBLIOGRAPHY

Trading Commodities and Financial Futures: A Step by Step

guide to Mastering the Market, 3rd Edition by George Kleinman

Options, Futures and Other Derivatives by Johan C. Hull

http://commodities.in

http://finance.indiamart.com/markets/commodity/

http://www.commoditiescontrol.com

http://www.mcxindia.com

http://www.ncdex.com

MCX Certified Commodity Professional Reference Material

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http://www.ncdex.com/

http://www.mcxindia.com/

http://www.commoditiescontrol.com/

http://finance.indiamart.com/markets/commodity/

http://commodities.in/

Business World (15th September 2003)

Business World (4th December 2006)

http://investmentz.co.in

http://trade.indiainfoline.com

http://www.finance.indiamart.com

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http://www.finance.indiamart.com/

http://trade.indiainfoline.com/

http://investmentz.co.in/

Commodity Trading

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