Commodity Market

Commodity Markets in India
Abstract
1. In chapter 1, brief introduction to commodity markets is given, need for the study is explained. Research problem is stated. Objectives of the study are listed. Methodology and scope and limitations of the study are stated. 2. In chapter 2, I explain about what are commodity markets, history of commodity trading, evolution of commodity market in India. A brief description about major commodity exchanges in India is given. Registered exchanges in India and the major products traded in Indian exchanges are listed. 3. In chapter 3, types of commodity derivatives are listed and discussed what are they and their terminology. I discussed what the difference between financial derivatives and commodity derivatives are. 4. In chapter 4, commodities trading (spot trading and futures trading) is discussed in detail. 5. In chapter 5, hedging mechanism, risk management and benefits of futures trading are discussed. 6. In chapter 6, commodity exchanges regulatory board functions and powers are listed. 7. Chapter7 deals with fundamental analysis of commodities. Fundamental analysis on red chillis is provided. 8. In chapter 8, a brief introduction about the company is given. Remaining chapters deal with primary research. The primary research is being conducted by direct interaction with the customers which include all kind of investors, traders, manufacturers, importers / exporters. The analysis is done with the help of the statistical tools. Finally, at the end of the project, conclusions and limitations of the study are provided on the basis of the results of the analysis of the primary research.
I.
Table of contents
I. II. III. IV. V.
Acknowledgements ............................................................. Error! Bookmark not defined. Declaration .......................................................................... Error! Bookmark not defined. Abstract ......................................................................................................................... 1 Table of contents ........................................................................................................... 2 List of Tables ..................................................................................................................... 4
1. Introduction ........................................................................................................................... 5 1.1 Brief Introduction to Commodity Markets ...................................................................... 5 1.2 Need for the study ........................................................................................................... 5 1.3 Research Problem ............................................................................................................ 6 1.4 Objectives of the Study ................................................................................................... 7 1.5 Methodology ................................................................................................................... 7 1.6 Scope and Limitations ..................................................................................................... 8 2. Commodity Markets .............................................................................................................. 9 2.1 History of Commodity Trading ....................................................................................... 9 2.2 Evolution of the Commodity Market in India ............................................................... 10 2.2.1 The Kabra Committee Report................................................................................. 10 2.2.2 Latest developments ............................................................................................. 13 2.3 Size of the Commodity Market in India ........................................................................ 13 2.4 Different Segments in Commodities Market ................................................................. 14 2.5 Commodity Exchanges in India .................................................................................... 14 3. Introduction to Commodity Derivatives .................................. Error! Bookmark not defined. 3.1 Derivatives......................................................................... Error! Bookmark not defined. 3.1.1 Forwards ..................................................................... Error! Bookmark not defined. 3.1.2 Futures ........................................................................ Error! Bookmark not defined. 3.1.2.1 Futures terminology................................................. Error! Bookmark not defined. 3.1.3 Options ....................................................................... Error! Bookmark not defined. 3.1.3.1 Option terminology .............................................. Error! Bookmark not defined. 3.2 Difference between Commodity and Financial Derivatives .......... Error! Bookmark not defined. 3.2.1 Physical Settlement ................................................. Error! Bookmark not defined. 3.2.1.2 Assignment .............................................................. Error! Bookmark not defined. 2
3.2.1.3 Delivery ................................................................... Error! Bookmark not defined. 3.2.2 Warehousing ............................................................. Error! Bookmark not defined. 3.2.3 Quality of underlying assets ..................................... Error! Bookmark not defined. 4. Commodities Trading .......................................................................................................... 22 4.1 Spot Trading .................................................................................................................. 22 4.1.1 How trading goes on .. ................................................................................ 23 4.1.2 Physical Settlement ............................................................................................... 25 4.1.3 E-series Products .................................................................................................... 25 4.2 Futures Trading ............................................................................................................. 28 4.2.1 Explanation ............................................................................................................. 29 4.2.2 Short Sales .............................................................................................................. 30 4.3 Margin requirements ..................................................................................................... 31 4.4 Clearing House .............................................................................................................. 33 4.5 Delivery ......................................................................................................................... 33 4.6 Dos and Donts for Clients/Investors in Commodity Futures Market ......................... 34 5. Purpose of Commodity Futures ........................................................................................... 38 5.1 Hedging ......................................................................................................................... 38 5.2 Price Discovery and Risk Management......................................................................... 40 5.3 Economic Benefits of the Futures Trading and its Prospects ........................................ 41 6. Regulatory Board ................................................................................................................ 43 7. Fundamental Analysis(Red Chilli) ...................................................................................... 46 7.1 Introduction ................................................................................................................... 47 7.2 World Scenario .............................................................................................................. 48 7.3 Indian Scenario .............................................................................................................. 48 7.4 Trade Statistics .............................................................................................................. 50 7.5 Factors influencing prices.............................................................................................. 52 7.6 Market influencing factors ............................................................................................ 52 7.7 Red Chilly Outlook ....................................................................................................... 53 8. Company Profile.................................................................................................................. 58 9. Primary Research ................................................................................................................ 60 10. Analysis and Interpretation of the Primary Research ........................................................ 65 11. Conclusion and Limitation of Primary Research .............................................................. 85 12. References ......................................................................................................................... 87 ANNEXURE-1 ............................................................................ Error! Bookmark not defined. 3
II. List of Tables

Table 2.1 Registered Commodity Exchanges in India Table 2.2 Commodities Traded over the Exchanges Table 4.1 Contract Specification for e-series products Table 4.2 The market timings for trading on the online platform of the Exchange (NSEL) are as under Table 4.3 Difference & Similarities between MCX and NCDEX Table 4.4 Contract Specification (MCX) Table 4.5 Contract Specification (NCDEX)
1. Introduction
1.1 Brief Introduction to Commodity Markets
Commodity markets links the producers of the commodities effectively with their commercial consumers. Commodities include agricultural products, precious metals, metals, energy, others. India is agricultural based country. Agricultural sector contributes to 24% of GDP. It is multi-crop country unlike other agricultural economies. It is the largest producer of pulses, tea, cashew and second largest producer of food grains, sugarcane, fruits, vegetables in the world. So, there is good future for commodity markets in India. In olden days, farmers sell their production in a market place called mandi. Farmer and trader negotiate with each other. Farmer (seller) agrees on a price to sell certain quantity of a product to the buyer. Trade goes on one to one basis. Derivatives as a tool for managing risk first originated in the commodities markets. They were then found useful as a hedging tool in financial markets as well. In India, trading in commodity futures has been in existence from the nineteenth century with organised trading in cotton through the establishment of Cotton Trade Association in 1875. Over a period of time, other commodities were permitted to be traded in futures exchanges. Regulatory constraints in 1960s resulted in virtual dismantling of the commodities future markets. It is only in the last decade that commodity future exchanges have been actively encouraged. However, the markets have been thin with poor liquidity and have not grown to any significant level.
1.2 Need for the study

The face of commodity markets is changing. In 19th century sellers and buyers meet at a place called mandi and trade goes on in that place. Now- a-days, electronic
exchanges have come in. Online trading is provided by these exchanges. Futures trading help in hedging price risk. A primary research is done on the level of awareness of people about commodity markets. Very low people are aware of commodity markets. People who are aware of financial markets lack knowledge about commodity markets. So, people (sellers, buyers, exporters, importers, Investors) who are interested in commodity markets, planning to start trading in commodities and working for brokerage companies need to know about commodity markets in India and mechanics of trading. Hedgers should know hedging mechanism. Buyers and sellers of commodities should know delivery mechanism and physical settlement process of exchanges.
1.3 Research Problem

The core research problem is lack of awareness about commodity markets. A primary research is done on the level of awareness of investors, farmers, traders, importers and exporters. Findings of research: 1. There is significant difference between the level of awareness between the investors of the share market and that of the commodity market. 2. There is a significant difference between people who trade in futures and options in the share market and that of the people who trade in commodity market. 3. Producers of agricultural products lack knowledge of commodity markets. 4. Even the investors visiting the Sharekhan office lacked knowledge of commodity markets. The details of the primary research are included at the end of the report.
1.4 Objectives of the Study

The objectives of this report are: 1. Increase the awareness of the readers about commodity markets. 2. Familiarize reader with trading mechanics. 3. Impart knowledge about hedging and risk management. 4. Build awareness about fundamental analysis of a commodity.
5. To study the concepts of commodities Trading in India. 6. To study of The Various Trends In Commodity Trading 7. To Study The Role of Commodities In Indian Financial Markets 8. To study In detail The Role of Futures And Forwards. 9.To analyze the present situation of the commodities in Indian market and suggest f or any improvements thereafter.
1.5 Methodology
Sources of data for fundamental analysis on red chilly Data is collected from ANGRAU, Hyderabad , NCDEX, Spices Board, Tamil Nadu Agricultural university and other commodity exchanges. Selection of area Andhra Pradesh is selected as it is the largest producer of red chilli in India. Guntur spot market is selected for study because it is the largest chilli market in Asia. Large volumes of trade happen in this market.
1.6 Scope and Limitations

The study of commodity markets is limited to Indian perspective. The analysis on red chilly is limited to Guntur chilli market as it is the largest market in Asia and large volumes of chilli comes to this market from different parts of India.
2. 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.
2.1 History of Commodity Trading

Commodity futures trading has been first recorded in the 17th century in Japan. The futures trading was basically done with the seasonal agricultural products so as to ensure their continuous supply all the year around. Japanese merchants used to store rice in the warehouses for their future use and used to sell receipts against such stored rice. These receipts were called as rice tickets which then eventually became the basis for their commercial currency. The rules which were established during this time for trading these rice tickets are similar to the rules set for American futures trading. In the United States, the commodity futures trading first started in the middle of the 19th century with the help of the Chicago Board Of Trade set up in the year 1848.Gradually then about 10 commodity exchanges were set up with a wide variety of agricultural products being traded. Commodity derivative market first started in India in cotton in the 1875 and in the oilseeds in 1900 at Bombay. Forward trading in raw jute and jute goods started at Calcutta in the year 1912. But however, within few years of their establishment, the forwards trading in these commodities was banned in the year 1960. Recently, in the year 2003, such ban on trading was lifted and the trading in commodity futures was started. Permission was given to establish online multi-commodity exchange in order to facilitate trading. The long period of prohibition of forward trading in major commodities like cotton and oilseeds complex has an enduring impact on the development of the commodity derivative markets in India and the futures market in commodities find themselves left far behind the derivative markets in the developed
9
countries, which have been functioning uninterruptedly. Thus, today the challenge before the commodity markets is to make up for the loss of growth and development during the three decades of government policies, which had the effect of restricting the growth of the derivative markets.
2.2 Evolution of the Commodity Market in India
Bombay Cotton Trade Association Ltd., set up in 1875, was the first organised 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 rawjute and jute goods. But organised 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 organised 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.
2.2.1 The Kabra Committee Report
After the introduction of economic reforms since June 1991 and the consequent gradual trade and industry liberalisation in both the domestic and external sectors, the Government of India appointed in June 1993 a committee on Forward Markets under chairmanship of Prof. K.N. Kabra. The committee was setup with the following objectives:
10
1.
To assess The working of the commodity exchanges and their trading practices in
India and to make suitable recommendations with a view to making them compatible with those of other countries. The role of the Forward Markets Commission and to make suitable recommendations with a view to making it compatible with similar regulatory agencies in other countries so as to see how effectively these agencies can cope up with the reality of the fast changing economic scenario. 2. To review the role that forward trading has played in the Indian commodity markets during the last 10 years. 3. To examine the extent to which forward trading has special role to play in promoting exports. 4. To suggest amendments to the Forward Contracts (Regulation) Act, in the light of the recommendations, particularly with a view to effective enforcement of the Act to check illegal forward trading when such trading is prohibited under the Act. 5. To suggest measures to ensure that forward trading in the commodities in which it is allowed to be operative remains constructive and helps in maintaining prices within reasonable limits. 6. To assess the role that forward trading can play in marketing/ distribution system in the commodities in which forward trading is possible, particularly in commodities in which resumption of forward trading is generally demanded. The committee submitted its report in September 1994. The recommendations of the committee were as follows: The Forward Markets Commission (FMC) and the Forward Contracts (Regulation) Act, 1952, would need to be strengthened. Due to the inadequate infrastructural facilities such as space and telecommunication facilities the commodities exchanges were not able to function effectively. Enlisting more members, ensuring capital adequacy norms and encouraging computerisation would enable these exchanges to place themselves on a better footing.
11
In-built devices in commodity exchanges such as the vigilance committee and the panels of surveyors and arbitrators are strengthened further. The FMC which regulates forward/ futures trading in the country should continue to act a watch-dog and continue to monitor the activities and operations of the commodity exchanges. Amendments to the rules, regulations and bye-laws of the commodity exchanges should require the approval of the FMC only. In the context of globalisation, commodity markets in India could not function effectively in an isolated manner. Therefore, some of the commodity exchanges, particularly the ones dealing in pepper and castor seed, are upgraded to the level of international futures markets. The majority of the committee recommended that futures trading be introduced in the following commodities: 1. Basmatirice 2. Cotton and kapas 3. Raw jute and jute goods 4. Groundnut, rapeseed/mustard seed, cottonseed, sesame seed, sunflower seed, safflower seed, copra and soybean, and oils and oilcakes of all of them. 5. Rice bran oil 6. Castor oil and its oilcake 7. Linseed 8. Silver 9. Onions The liberalised policy being followed by the government of India and the gradual withdrawal of the procurement and distribution channel necessitated setting in place a market mechanism to perform the economic functions of price discovery and risk management.
12
The national agriculture policy announced in July 2000 and the announcements in the budget speech for 2002-2003 were indicative of the governments resolve to put in place a mechanism of futures trade/market. As a follow up, the government issued notifications on 1.4.2003 permitting futures trading in the commodities, with the issue of these notifications futures trading is not prohibited in any commodity. Options trading in commodity is, however presently prohibited. 2.2.2 Latest developments
Commodity markets have existed in India for a long time. Table 1.1 gives the list of registered commodities exchanges in India. While the implementations of the Kabra committee recommendations were rather slow, today, the commodity derivative market in India seems poised for a transformation. National level commodity derivatives exchanges seem to be the new phenomenon. The Forward Markets Commission accorded in principle approval for four national level multi commodity exchanges. The increasing volumes on these exchanges suggest that commodity markets in India seem to be a promising game.
2.3 Size of the Commodity Market in India
The size of the commodities markets in India is quite significant. Of the country's GDP of Rs 13, 20,730 crore (Rs 13,207.3 billion), commodities related (and dependent) industries constitute about 58 per cent. The various commodities across the country clock an annual turnover of Rs 1, 40,000 crore (Rs 1,400 billion). Despite having a robust economy, India's share in the global commodity market is not as big as estimated. Except gold the share in other sectors of the commodity market is not very significant. India accounts for 3% of the global oil demands and 2% of global copper demands. In agriculture India's contribution to international trade volume is rather less compared to the huge production base available.
13
2.4 Different Segments in Commodities Market

The commodities market exits in two distinct forms namely Over the Counter (OTC) market The Exchange based market Also, there exists the spot and the derivatives segment. The spot markets are essentially over the counter markets previously and the participation is restricted to people who are involved with that commodity say the farmer, processor, wholesaler etc. But, now-a-days exchange-based spot market has come into existence. National Spot Exchange provides spot trading of commodities. Derivative trading takes place through exchange-based markets with standardized contracts, settlements etc.
2.5 Commodity Exchanges in India

Commodity exchanges are places which trade in particular commodities, neglecting the trade of securities, stock index futures and options etc. Exchanges are the centralized places which provide a platform for both the buyers and the sellers to meet, set quality standards and establish the rules of businesses. Commodity exchanges in India plays an important role as it offers a tool for efficient risk management and price transparency. In India, there are about 25 recognized regional exchanges of which five are national level multi-commodity exchanges. These five national level multi-commodity exchanges are, National Board of Trade National Commodity and Derivative Exchange Limited( NCDEX) Multi-Commodity Exchange Of India( MCX) National Multi-Commodity Exchange Of India Limited ( NMCEIL) National Spot Exchange Limited(NSEL)
14
All the above exchanges have been set up under the overall control of Forward Market Commission of Government of India. National Commodity & Derivative Exchange Limited (NCDEX) National Commodity & Derivative Exchange Limited (NCDEX) located in Mumbai is a public limited company incorporated on April 23, 2003 under the Companies Act, 1956 and had commenced its operations on December 15, 2003. This is the only commodity exchange in the country promoted by the national level institutions. It is promoted by Life Insurance Corporation of India (LIC), National Bank for Agriculture and Rural Development (NABARD) and National Stock Exchange (NSE). Other shareholders are Canara Bank, Punjab National Bank (PNB), CRISIL Limited, Indian Farmers Fertiliser Cooperative Limited (IFFCO), Goldman Sachs, Intercontinental Exchange (ICE), Shree Renuka Sugars Limited and Jaypee Capital Services Limited. It is a professionally managed online multi- commodity exchange. NCDEX is regulated by Forward Market Commission and is subject to various law of land like the Companies Act, Stamp Act, Contracts Act, Forward Commission (Regulation) Act and various other legislations. The Exchange, as on May 21, 2009 when Wheat Contracts were re-launched on the Exchange platform, offered contracts in 59 commodities - comprising 39 agricultural commodities, 5 base metals, 6 precious metals, 4 energy, 3 polymers, 1 ferrous metal, and CER. The top 5 commodities, in terms of volume traded at the Exchange, were Rape/Mustard Seed, Gaur Seed, Soyabean Seeds, Turmeric and Jeera.
Multi Commodity Exchange of India Limited (MCX) Multi Commodity Exchange is headquartered in Mumbai and is an independent, demutualised exchange with the permanent recognition from Government of India. Key Shareholders of MCX are Financial Technologies (India) Ltd., State Bank of India and its associates, National Bank for Agricultural and rural Development (NABARD), National Stock Exchange of India Ltd (NSE), Fid Fund (Mauritius) Ltd. - an affiliate of Fidelity International, Union Bank of India, Corporation Bank, Bank of India,
15
Canara Bank, HDFC Bank, SBI Life Insurance Co. Ltd., ICICI ventures, IL&FS, Merrill Lynch and New York Stock Exchange. MCX facilitates online trading, clearing and settlement operations for commodity futures market across the country.MCX started offering trade in November 2003 and has several strategic alliances with leading exchanges across the globe. It has built strategic alliances with Bombay Bullion Association, Bombay Metal Exchange, Solvent Extractors Association of India, Pulse Importers Association and Shetkari Sanghatana. The turnover of the exchange for the fiscal year 2009 was US$ 1.24 trillion. Revenue Rs 104.39 crore (20052006) .In terms of contracts traded, it was in 2009 the world's sixth largest commodity exchange. MCX offers futures trading in bullion, ferrous and non-ferrous metals, energy, and a number of agricultural commodities (mentha oil, cardamom, potatoes, palm oil and others). 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. As of early 2010, the normal daily turnover of MCX was about US$ 6 to 8 billion MCX now reaches out to about 800 cities and towns in India with the help of about 126,000 trading terminals. MCX COMDEX is India's first and only composite commodity futures price index. National Multi-Commodity Exchange of India Limited (NMCEIL) National Multi-Commodity Exchange of India Limited (NMCEIL) is the first demutualised, electronic Multi-commodity Exchange in India. It is one and only one Commodity exchange in the world to obtain the prestigious ISO 9001:2000 certification awarded by the British Standard Institutions (BSI). NMCE not only revived futures trade electronically in the commodities in India after a gap of 41 years, but also integrated the centuries old commodity market with the latest technology. It is backed by compulsory delivery based settlement to ensure transparent and fair trade practices. NMCE offers electronic platform for future
16
trading in plantation, spices, food grains, non-ferrous metals, oil seeds and their derivatives. On 25th July, 2001, it was granted approval by the government to organize trading in the edible oil complex. It has been operationalised from November 26, 2002. It is promoted by Central Warehousing Corporation (CWC), Punjab National Bank (PNB), National Agricultural Cooperative Marketing Federation of India (NAFED), Gujarat Agro-Industries Corporation Limited (GAICL), Gujarat State Agricultural Marketing Board (GSAMB), Neptune Overseas Limited (NOL), National Institute of Agricultural Marketing (NIAM). It has got its recognition in October 2002. National Spot Exchange Limited National Spot Exchange Ltd (NSEL) is an electronic, demutualised commodity spot market. The Exchange is promoted by Financial Technologies (India) Ltd (FTIL) and National Agricultural Cooperative Marketing Federation of India Limited (NAFED). It provides an electronic, transparent, well organized and centralized trading platform with the facility to access and participate in the market remotely. It facilitates risk free and hassle free purchase and sell of quality and quantity specified commodities to commodity market participants including farmers, traders, processors, exporters, importers, arbitrageurs, investors and the retail market participants. Exchange also offers various other services such as quality certification, warehousing, warehouse receipt financing, etc. NSEL commenced its live operations on 15th October 2008. The Exchange has started trading in Pre-certified cotton bales for Mumbai delivery, Imported Gold bar and silver bar for Ahmedabad delivery from the day one and now has added number of commodities for the spot trading. Its stated mission is to develop a Common Indian Market, by setting up a national level electronic spot market and providing a state of art trading, delivery and settlement facilities in various commodities, which can be accessed from across the country. It has created efficient spot delivery platform, helping the sellers/producers to sell commodities directly to the end buyers comprises of processors/ exporters. Currently, NSEL holds a market share of over 98% of the Indian electronic commodity Spot market, and has more than 495 registered members operating through over 3000
17
trader work stations, across India. Government organizations like FCI, HAFED, MMTC, PEC, NAFED, APMARKFED, RAJFED, and CCI have been actively utilizing the Exchange platform for selling various commodities. More than 33 commodities are traded on NSEL Platform having delivery locations spread across 14 states. For the first time in India, NSEL has introduced demat delivery based instrument products called e-Series, in commodities like gold, silver, copper, zinc and lead. This is a unique market segment, which is functioning just like cash segment in equities, but offering commodities in demat form in smaller denominations. Salient Features On spot exchange single day contracts are traded. It provides intra day trading with settlement of obligation on net basis. All positions outstanding at end of the day should result into compulsory delivery. Demat delivery facility is available . Fungibility of delivery between National Spot Exchange and MCX with common ICIN nos is possible. Loan facility against pledge of demate / warehouse receipt all deliverable futures contracts, including agri commodities, gold, silver, non-ferrous metals and wide number of other industrial products to be launched.
18
Table 2.1 Registered Commodity Exchanges in India Exchange Product traded Bhatinda Om & Oil Exchange Ltd. Gur The Bombay Commodity Exchange Ltd. Sunflower oil Cotton (Seed and oil) Safflower (Seed, oil and oil cake) Groundnut (Nut and oil) Castor oil, Castorseed Sesamum (Oil and oilcake) Rice bran, rice bran oil and oilcake Crude palm oil The Rajkot Seeds oil & Bullion Merchants Groundnut oil Association, Ltd. Castorseed The Kanpur Commodity Exchange Ltd. The Meerut Agro Commodities Exchange The Ltd. Co. Spices and Oilseeds Exchange Ahmedabad Commodities Exchange Ltd. Ltd.Sangli Vijay Beopar Chamber Ltd., India Pepper & Spice Trade Association, Muzaffarnagar Rajdhani Oils and Oilseeds Exchange Ltd., Kochi Delhi National Board of Trade, Indore Rapeseed/ Mustardseed oil and Gur cake Turmeric Cottonseed, Castorseed Gur Pepper Gur, Rapeseed/ Mustardseed Sugar Grade-M Rapeseed/ Mustard seed/ Oil/ Cake Soybean/ Meal/ Oil, Crude Palm Oil The Chamber of Commerce, Hapur The East India Cotton Association, The Central India Commercial Exchange Mumbai The East India Jute & Hessian Exchange Ltd., Gwaliar First Kolkata Ltd., Commodity Exchange of India Ltd., The Coffee Futures Exchange India Ltd., Kochi Bangalore Gur, Rapeseed/ Mustardseed Cotton Gur Hessian, Sacking Copra, Coconut oil & Copra cake Coffee
19
National Multi Commodity Exchange of Gur, RBD Pamohen India Limited, Ahmedabad Crude Palm Oil, Copra Rapeseed/ bean Mustardseed, Soy
Cotton (Seed, oil, oilcake) Safflower (seed, oil, oilcake) Groundnut (seed, oil, oilcake) Sugar, Sacking, gram Coconut (oil and oilcake) Castor (oil and oilcake) Sesamum (Seed,oil and oilcake) Linseed (seed, oil and oilcake) Rice Bran Oil, Pepper, Guarseed Aluminium ingots, Nickel, tin Vanaspati, Rubber, Copper, Zinc, lead National Commodity Exchange Limited & Derivatives Soy Bean, Refined Soy Oil, Mustard Seed, Expeller Mustard Oil, RBD Palmolein, Crude Palm Oil, Medium Staple Cotton, Long Staple Cotton, Gold, Silver
20
Table 2.2 Commodities Traded over the Exchanges
Bullion Oil Oilseeds Spices Metals Fibre Pulses Grains Energy Others
Gold and Silver & Castor Seeds, Soya Seeds, Castor Oil, Refined Soya Oil, Soya meal, Crude Palm Oil, Groundnut Oil, Mustard Seed, Cotton Seed Oil Cake, Cottonseed. Pepper, Red Chilly, Jeera, Turmeric, Cardamom Steel Long, Steel Flat, Copper, Nickel, Zinc, Tin, Steel, Aluminum,Lead Kapas, Long Staple Cotton, Medium Staple Cotton Chana,Urad,Yellow Peas, Tur, Rice, Basmati Rice, Wheat, Maize, Sarbati Rice, Jeera Crude Oil, Natural Gas, Brent Crude, Heating oil, Gasoline Rubber, Guar Seed, Guar Gum, Cashew, Cashew Kernel, Sugar, Gur, Coffee, Silk, Almond.
21
4. Commodities Trading
4.1 Spot Trading
Earlier, commodity spot markets are essentially over the counter markets (OTC). OTC is a private market. In these markets, individuals/institutions trade through negotiations on a one to one basis. People who are in need of a commodity, buys the product from those persons (farmer, processor, wholesaler etc) who had stock with them. The buyer does the payment immediately on the spot and the seller handovers the product. Thus, a spot market contract involves immediate payment and immediate transfer of asset. Now a days, the face of commodity spot market is changing drastically. Electronic spot exchanges have come into existence. Now, spot trading in commodities is similar to equity spot trading that is cash segment of equity market. We have only one national exchange in India where spot trading of commodities is allowed. It is National Spot Exchange Limited (NSEL) which was set up in October, 2008. It is an electronic spot exchange. It is Indias No.1 spot exchange having 99% market share, providing delivery based trading platform in commodities (CashSegment in Indian Commodity Market). Its promoters are Financial Technologies and National Agricultural Co-Operative Marketing Federation of India Limited (NAFED). The products offered by NSEL are 1. Agricultural Products Cereals: Paddy, Wheat, Bajra Pulses: Bengal gram, Green Gram, Black gram, Pigeon Peas, Yellow Peas etc. Edible Oils & Oilseeds: Soya bean, Castor Seed, Mustard Seed etc. Cotton, sugar and Black Pepper. 2. Non Agricultural Products Bullion: Gold & Silver (Bars & Coins) Steel: Ignots and Billets
22
3. E-Series products E-Gold E-Silver E- Copper E-Zinc E-Lead 4.1.1 How trading goes on ..
National Spot Exchange Ltd (NSEL) introduced fully automated screen based spot trading for commodities. It uses a modern, fully computerized trading system designed to offer market participants across the length and breadth of the country a safe and easy way to trade. The NSEL trading system called 'National Exchange for Spot Trading' (NEST) is a fully automated screen based trading system, which adopts the principle of an order driven market. In spot market, single day trading contracts are traded. The contracts open every day for trading. The buyer/seller buys and sells the contracts. For buying or selling of the commodities, trader has to maintain certain amount as a margin with the broker of the exchange. If the buyer wants to hold the commodity long, he requires paying total value of the transaction. Total value of a transaction (tot) = market price of the commodity * lot size. Margin amount= tot * percentage of margin Without holding the commodity he can go for selling it. This is called short sales. In short sales investor makes profit when market goes down (bearish market). In short sales, investor first sells the commodity and then buys the commodity. According to the trading rules, if he goes for selling without holding the commodity he has to buy the commodity by the end of the trading session on that day. Let us see this. For example, the investor sells 1gm of gold for INR 2230. The market goes down and
23
price comes down to INR 2200. He makes a profit of rupees 30(2230-2200) for 1 gm of gold if he buys at INR 2200. The buyer/seller can offset their transaction by end of that days trading session. The position open at the end of the trading session results into the compulsory delivery of the commodity traded. The electronic spot market platform is many-to-many market structure. For each contract, Exchange has identified a particular delivery location or additional warehouses where the commodities can be delivered and lifted by the sellers and buyers respectively.
The seller willing to sell agri- commodity on the Exchange platform will be required to bring the commodity to the Exchange warehouse where weighment and quality certification is done. The quality certification is done by the quality certifying agent based at the exchange warehouse. The commodity is allowed for trading on the Exchange platform only if the quality of the commodity is as per the contract specification of the Exchange. For withdrawal of the commodity from the Exchange designated warehouse, the buyers are required to give at least 1 day prior intimation to the warehouse for necessary arrangements. Based on the intimation received from the withdrawer, delivery schedule will be intimated by the warehouse supervisor. Loading of commodities will be done on first cum first serve basis.
At the time of lifting the delivery from the exchange warehouse the buyer member needs to submit the Letter of Authority requesting the Warehouse manager to issue the delivery of Commodity to the bearer of the Authority Letter along with original Copy of the Warehouse Receipt. The buyer has to instruct their representative to carry some identity Proof (ID proof of his representative such as Voter ID / PAN/ Passport to enable the Exchange) along with the Authority Letter and Original Warehouse Receipt for lifting the stock from the accredited warehouse. For spot trading in the bullions, the same procedure is followed as in the Agri-commodity. The Exchange accredited vaults are the delivery centres for the bullions.
24
4.1.2 Physical Settlement 1. Trade Matching Finding the sellers and buyers and assigning sellers to buyers. 2. Delivery marking & Obligation to Members through FTP 3. Commodity Deposited by Seller at W-H/Vault 4. Confirmation by WH to Delivery dept. after certification 5. Commodity Pay-In confirmation by Delivery dept to Clearing Dept. 6. Funds Pay-in by Buyer (thru Settlement A/C) 7. Funds pay-out to seller. 8. Buyer detail to the Exchange. 9. DO issued to warehouse. 10. Commodity pay-out confirmation to the Buyer 11. Lifting of commodity. 12. Invoice by the seller.
4.1.3 E-series Products
For the first time in the history of Indian commodity market, National Spot Exchange launched a unique investment product in Gold, Silver, Copper and Zinc in demat form called e-series. Gold, Silver, Copper and Zinc are available for trading with all features and convenience of equity market scrip and operation. E-series products provide facility to buy commodities in smaller denominations. Where as, in future market investor has to buy commodities in lot sizes. For example, if an investor wants to buy copper, he has to buy 1 lot size i.e 1MT (metric ton) on MCX. In spot market, he will be able to buy 50 kg of copper and hold in demat account.
25
Features of E-series products

Promotes Systemic investment and savings
Invest in smaller denomination (1 gm gold and 100 gm Silver) Transparent and uniform pan India pricing Convenient and secure online buying and selling No storage or holding costs Physical delivery of accumulated demat units at multiple centres available Extending trading hours from 10 am to 11.30 pm. NSDL and CDSL act as the Depository for holding commodity units in the electronic form, while the commodity in physical form is kept in the designated vault/storage. Designated vault for Bullion is Brinks Arya. Registrar and Transfer Agent (RTA) is Karvy. NSEL is the issuer. E-series products function just like cash segment in equities. Retail investors, corporate can trade and invest in the instrument. Only Authorized Dealers appointed by NSEL are eligible to demat and take care of all compliance. These products are eligible for off market transfer and pledge. Physical conversion of accumulated demat units is possible at designated centres. There are no storage / WR charges for storing of E-Series ICINs. Advantages of commodity E-Series contract trading: 1. Holding commodities in demat form. 2. Retail investors can diversify their portfolio. 3. No worry for daily MTM pay in/pay out as in derivative market.
26
4. No risk of commodity custody/theft. 5. Liquidity/ any time buying and selling of commodity. 6. Hassel free low cost transaction in physical commodity.
Table 4.1 Contract Specification for e-series products
Commodity
e-gold
e-silver
e-copper
Symbol
E-Gold
E-Silver
E-Copper
Trading days & time
Mon-Fri(10am11.30pm)
Price quote
Per gram
Per 100 gram
Per kg
Trading units
1 gram
100 gram
1 kg
Tick size
10 paise
10 paise
5 paise
Purity
995
999
999
Demat units
1 gram
1 gram
1kg
DPR
5%
5%
5%
Intial Margin
5%
5%
5%
Delivery margin
10%
10%
10%
ICIN
INC20000007
INC200000015
INC200000023
27
Settlement
T+2
T+2
T+2
Market Type
Normal
Normal
Normal
Table 4.2 The market timings for trading on the online platform of the Exchange (NSEL) are as under Products AGRI NON-AGRI Intraday Contracts(Agri/non-agri) E-series product 10:00 to 23:30 Monday to Friday 10:00 to 18:00 10:00 to 23:30 10:00 to 16:00 Saturday 10:00 to 14:00 10:00 to 14:00
4.2 Futures Trading
There are many exchanges in India that provide trading in commodity futures. The major exchanges that provide futures trading in commodities in India are MCX and NCDEX. A commodity futures market (or exchange) is, in simple terms, nothing more or less than a public marketplace where commodities are contracted for purchase or sale at an agreed price for delivery at a specified date. These purchases and sales, which must be made through a broker who is a member of an organized exchange, are made under the terms and conditions of a standardized futures contract. The primary distinction between a futures market and a market in which actual commodities are bought and sold, either for immediate or later delivery, is that in the futures market one deals in standardized contractual agreements only. These agreements (more formally called futures contracts) provide for delivery of a specified amount of a particular commodity during a specified future month, but involve no immediate transfer of ownership of the commodity involved.
28
In other words, one can buy and sell commodities in a futures market regardless of whether or not one has, or owns, the particular commodity involved. When one deals in futures one need not be concerned about having to receive delivery (for the buyer) or having to make delivery (for the seller) of the actual commodity, providing of course that one does not buy or sell a future during its delivery month. One may at any time cancel out a previous sale by an equal offsetting purchase or a previous purchase by an equal offsetting sale. If done prior to the delivery month the trades cancel out and thus there is no receipt or delivery of the commodity. Actually, only a very small percentage, usually less than two percent, of the total futures contracts that are entered into are ever settled through deliveries. For the most part they are cancelled out prior to the delivery month in the manner just described. 4.2.1 Explanation
In general, futures contracts are available in one month, two month, three month contracts. Contracts will have expiry date. On NCDEX, a futures contract expires on 20th day of the delivery month. For example, a June month contract expires on 20th of June and will not be available for trading after 20th. Next day, a new contract having a three month expiry will be introduced for trading. On MCX expiry date of a contract is different for different commodities. Commodities are traded in specific lot sizes. On MCX, one lot size of gold is 100gms. When you buy one contract of gold, you need to buy 100gms. You cannot buy less than a lot size. When you buy or sell a contract you need to deposit certain percentage of total value of the contract with the broker of the exchange. This percentage is called margin percentage. This margin varies from commodity to commodity and from exchange to exchange. Margin percentages for commodities trading on MCX are listed in Table 4.4. Margin percentages for commodities trading on NCDEX are listed in Table 4.5. Let us consider investor A. He has bought turmeric one month June contract on NCDEX. See Table 4.5.
29
Calculation of Margin Amount: Last Traded Price (LTP) = 10,700 Price quotation on screen is Rs/Quintal. That is, cost per Quintal is INR 10,700. Lot size is 10 MT= 100 Quintal. Margin percentage is 34.00%. Lot value is INR 1,070,000. Approximate margin is 1,070,000*(34/100) =363,800 The margin amount need to be deposited is 363,800 approximately. The brokerage companies may ask to deposit slightly higher than this calculated value because of the volatility of the commodity. A deposits the margin and holds the turmeric June month contract. Expiry day will be 20th of June. He may square off the transaction before the expiry day or go for settlement by taking delivery. In case of delivery, delivery notice will be sent to the buyer before five days of the expiry date. During this period he can make arrangements to gather funds to pay total value of the contract and take delivery. Other party makes arrangements for delivery of the commodity. 4.2.2 Short Sales To sell a commodity future short one sells first a then closes out (or covers) this sale with an offsetting purchase at a later date. One need not have, or own, the particular commodity involved. The practice of selling short is a common one in futures markets. Those who sell short (with the exception of those placing hedges to protect a cash commodity position) do so in the expectation that prices will decline and that they will be able to buy later at a profit. A short position in the market is of course just the opposite of a long position, which involves buying first and closing out (or liquidating) later with an offsetting sale.
30
Some find it difficult to understand how short sales are possible, due to the preconceived idea that one cannot sell something that he doesnt own. To understand how one can sell something short one must first understand that it is possible, and perfectly legal, to sell something that he does not own providing the sale has certain attached conditions. One of the conditions is that one agrees to deliver what he sells at a later date. Another condition is that, if one does not deliver, he will stand any loss that the buyer may suffer as a result of an advance in price between the time one makes the sale and the time he cancels out his delivery obligation by means of an offsetting purchase. When one sells a commodity future short, one always does so under these conditions. Of course if prices decline during the period one is short one realizes a profit on the transaction. If, for example one sells 10 MT June Chana short at INR 2617 per quintal and then later covers this short sale with an offsetting purchase at 2610 per quintal, the profit is 7 rupees per quintal, or 700 rupees, on the 10 MT contract, less the brokers commission. In the event chana prices advance and one is forced to cover his short sale at INR 2624, one would have a loss of rupees 700, plus commission. Short sales in commodities are much simpler than in stocks. When one sells a stock short he must borrow the stock for immediate delivery against his short sale. This involves a substantial loan deposit and costs that are not involved when one goes long on a stock. Also, stock exchange rules prohibit a stock from being sold short in a declining market unless the short sale is made at a price above the last sale price of the stock, or in other words on an uptick. The short seller in commodities is faced with none of these restrictions.
4.3 Margin requirements

When one establishes a position in a commodity future, either long or short, it is necessary to deposit with the broker a sufficient amount of money to protect the position actually to protect the broker against loss in the event the trade entered into is unprofitable. This deposit is referred to as the margin. It should not be confused with the clearinghouse margin required of an exchange member. The margin required of a customer by a broker is a different margin than that required of the broker by the clearinghouse. Both margins serve the same purpose, however they insure that
31
obligations arising from commitments in commodity futures are fulfilled. There is no interest charged on the difference between the market value of a futures contract and the margin deposited to trade in it. Margins in commodity trading are, in effect, the same as earnest money in a real estate transaction. In a real estate transaction the earnest money, or down deposit, is to bind a contract on real estate contracted for today but to be delivered at a later date. In the case of a commodity futures contract, just as in the case of a real estate contract calling for delivery of the real estate at a later date, full payment is made upon delivery. But prior to actual delivery all that is needed is a deposit sufficient to bind the contract. The amount of margin that one is required to deposit with the broker in order to trade in commodities is usually 10 percent or less of the market price of the commodity. Exchange regulations prescribe the minimum margins that brokers require of customers. These minimums are changed from time to time, depending on market conditions. Also, it should be noted that at any given time one broker might require larger margins than another. The broker is limited only with respect to minimum requirements. If he feels that adequate protection requires a larger margin than the minimum required by the exchange regulations, he is free to ask for a larger margin. In this connection, however, for competitive reasons a broker is somewhat limited in the amount of margin required from his customers. Consequently, the tendency is for margin requirements among various brokers to stay pretty close in line. After making an original margin deposit with a broker, one is obligated to add this deposit only if (1) he increases the size of his market commitment, or (2) there is a loss in his existing position due to prices moving in a direction contrary to that which he had expected. The usual procedure is for the broker to call for additional margin when the original margin has been reduced (by an adverse price move, usually calculated as of the close of the market session) to roughly 70 to 75 percent of the margin originally deposited. The margin call is normally for the amount needed to bring ones margin back up to the original requirement.
32
4.4 Clearing House

Each futures exchange has its own clearing house. All members of an exchange are required to clear their trades through the clearing house at the end of each trading session, and to deposit with the clearing house a sum of money (based on clearinghouse margin requirements) sufficient to cover the members debit balance. Because all members are required to clear their trades through the clearing house and must maintain sufficient funds with it to cover their debit balances, the clearing house is placed in a position of being responsible to all members for the fulfillment of contracts. The buyer and seller of the futures contracts are protected against the counter party risk by clearing house. It provides the guarantee that the buyer or the seller of a futures contract does not suffer as a result of the counter party defaulting on its obligation. In case one of the parties defaults, the Clearing house steps in to fulfill the obligation of this party, so that the other party does not suffer due to non-fulfillment of the contract.
4.5 Delivery
1. Sellers and buyers have to convey intention on or before five days of the contract expiry date. 2. The intentions are then matched and assigned by the Exchange with the corresponding buyers. As is the case universally, seller has freedom to tender delivery during the delivery period at any approved delivery centers. In other words, buyer cannot demand delivery at delivery center of his choice. When the seller gives intimation, a call is made to the corresponding buyer to whom the delivery is assigned by the Exchange. Delivery margin is collected from both the buyer and seller. 3. After matching the open positions of relevant buyer and seller, the same is transferred from the system and settled at the closing price of the preceding day, so that mark to market (MTM) is not levied or paid to the member.
33
4. Within five days from the position transfer, the buyer has to maintain the required funds in their clearing & settlement account while the seller has to tender the warehouse receipts to the exchange along with the computation of warehouse charges. On the 3rd day, the exchange makes pay-in & payout simultaneously after retaining the warehouse charges margin and sales tax margin from the buyer and seller respectively. 5. After the completion of pay-in and payout, duly endorsed warehouse receipts are sent to the buyer immediately. 6. Settlement of warehouse charges, margins and sales tax margins take place soon after receipt of relevant documents (copies of sales bill, sales tax form) from the member.
4.6 Dos and Donts for Clients/Investors in Commodity Futures Market

DOs 1. Deal only with a registered member of MCX. To check, visit
www.mcxindia.com/SitePages/MemberDetails.aspx. 2. While you take a trading account, carefully read and fill out all the documents that the Member has to give you, in particular the Know Your Client (KYC form), the Member-Client Agreement and the Risk Disclosure Document, and keep copies. 3. Only pay your member by cheque( including margins), insist on receipts and keep these carefully. 4. Record and check all trades. High value trades should be in writing; insist on signed copies of Contract Notes within 48 hours of trade execution; obtain bills for every settlement and also obtain fortnightly monthly statements of your ledger account. You can check the genuineness of trades at
www.mcxindia.com/SitePages/Tradeverification.aspx. If there are discrepancies report to your Member within 7 days, and if Member does not respond, report to the Exchange within 15 days.
34
Donts 1. Dont undertake off market transactions as they are illegal and fall outside the jurisdiction of the Exchange. 2. Dont get influenced by indicative returns, rumors, hot tips, luring advertisements, explicit/implicit promises and bull/bear runs of market sentiment. 3. Dont start trading before reading and understanding the Risk Disclosure Agreement and entering into the prescribed agreement with a member. 4. Dont accept/ pay cash from/to your member towards margins and settlement. 5. Dont accept contract notes/confirmation memos that are duplicate
/unsigned/signed. 6. Dont sign Blank Delivery Slips while furnishing security deposits.
Table 4.3 Difference & Similarities between MCX and NCDEX
MCX Contract Months Different for each commodity Expiry Day Different for commodities
NCDEX Normally monthly 20th of each contract month
Timing
Summer (May to October) :All Commodities : 10 AM to 11:30 PM. International Commodities: 5 PM to 11.30 PM. Winter (Nov to April): 10 AM to 5 PM. International Commodities: 5 PM to 11.55 PM.
Summer (May to October) : All Commodities : 10 AM to 5 PM. International Commodities: 5 PM to 11.30 PM. Winter (Nov to April): 10 AM to 5 PM. International Commodities: 5 PM to 11.55 PM.
35
Active Commodity
Gold, Silver, Crude Oil, Copper, Natural Gas, Nickel, Ref Soya Oil, Mentha Oil
Pulses, Sugar, Wheat, Spices, Gold, Silver, Steel, Soy Complex
Table 4.4 Contract Specification (MCX) Commodity LTP Price Quotati on Lot Size (Qty )/1 Rs (+ & -) GOLD 1770 0 10GRM S 100 4% 1,770,00 0 70,800 Feb, April, June, Aug, Oct, Dec. SILVER 2830 0 1KGS 30 5% 849,000 42,450 Mar, May, July, Sep, Dec. COPPER 322 1KGS 100 0 CRUDEOIL 3550 1BBL 100 5% 3,550,00 0 17,750 5% 322,000 16,100 Nov, Feb, April. Jan, Feb, Mar. (Monthly) NATURALG AS 240 1mmBtu 125 0 8% 240,000 24,000 Nov, Dec, Jan.(Monthl y) NICKEL 750 1KGS 250 7% 750,000 13,125 Nov, Dec, Jan.(Monthl y)
36
Margi n%
Lot Value(R s)
Appro Contract x Margi n (Rs) Months
Table 4.5 Contract Specification (NCDEX) Commo dity LT P Price Quotation Lo t Siz e Marg in % Varia nt (1 Rs + &-) Lot Value( Rs) Appr ox Marg in (Rs) Turmeri c 107 00 Rs/Quintal 10 M T Guar Seed 280 0 Rs/Quintal 10 M T 7% 100 280,000 19,60 0 Nov, Dec, Jan, Feb, Mar, Apr.(Mont hly) Soy Oil 495 Rs/10Kgs 10 M T Pepper 156 50 RS/QUIN TAL 1 M T 5% 10 156,500 7,825 5% 1000 495,000 24,75 0 Nov, Dec, Jan.(Month ly) Nov, Dec, Jan, Feb, Mar, Apr.(Mont hly) Chana 262 0 RS/QUIN TAL 10 M T 6% 100 262,000 15,72 0 Nov, Dec, Jan, Feb, 34% 100 1,070,0 0 363,8 00 Nov, Dec, Apr. Contract Months
Mar.(Mont hly)
Soy Bean
242 0
RS/QUIN TAL
10 M T
6%
100
242,000 14,52 0
Nov, Dec, Jan, Feb,
Mar.(Mont hly)
37
5. Purpose of Commodity Futures

5.1 Hedging
Hedging is a mechanism by which the participants in the physical market can cover their price risk. Theoretically, the relationship between the futures and the cash prices is determined by the cost of carry. The two prices therefore move in tandem. This enables the participants in the physical market to cover their price risk by taking opposite positions in the futures market. Hedging can be better understood by two hypothetical illustrations: Hypothetical illustration: 1 A Wheat miller enters into a contract to sell flour to the bread manufacturer four months from now. The price is agreed upon though the flour would be delivered only after four months. The wheat miller is worried that the price of the wheat would increase during the course of next four months. A rise in the prices would lead to losses on the contract of the miller. To safeguard against the risk of increasing prices of wheat, the miller buys the Wheat futures Contract that call for delivery of wheat in the four months time. After the expiry of the four months, as feared by the miller, the prices of wheat may have risen. The mille then purchases Wheat in the spot market at a higher price. However, since he has hedged in the futures market, he can sell contract in the futures markets at a gain since there is a gain in the future price as well. Thus, he offsets his purchase of wheat at a higher cost by selling the futures contract thereby protecting his profit on the sale of the flour. Thus, the wheat miller hedges against exposure to price risk.
38
April
Buy Wheat Futures Contract
Wheat
Miller
Sell wheat futures contract July Buy Wheat in the spot market for delivery to the bread manufacturer
Hypothetical Situation: 2 A farmer plans to harvest the guar seed crop in the month of November. But in the harvesting season the Guar Seed prices usually decline due to excess supply in the market. This usually forces the farmer, who requires income for the next subsequent harvesting season, to sell his harvest at a discount. The farmer has two options to counter this risk he is exposed due to price fluctuations: Option 1: Store the Guar Seed, which has been harvested for few months and subsequently sell the Guar Seed when the prices increase. But, this would not be possible if the farmer requires the proceeds from the sale of his harvest to finance the next crop season. Also, the farmer would require adequate storage space and would require following preservation techniques to ensure that the stored harvest would not be destroyed due to infestation. Option 2: Alternatively, the farmer can hedge himself by selling November Guar Seed future contract in the month of September. Any decline in the spot prices in the month of November would decline in the futures prices, which he has already sold for a higher price. Upon harvest, the farmer would offset his futures transaction by buying Guar
39
Seed November futures contract and simultaneously sell his Gaur Seed crop harvest in the physical market. This ensures that the farmer is protected against any decline in the prices in the physical market.
September
Sell Gaur Seed November Futures
Farmer
Buy Guar Seed November Futures
November
Sell Guar Seed Harvest in the Physical Market.
5.2 Price Discovery and Risk Management
Price Discovery: Price discovery is the process by which future prices of commodities are arrived at by a large number of buyers and sellers across a wide geographical area that anonymously trade contracts that are to mature at a future date. Such contracts are technically known as futures and are traded on a single trading platform like MCX. Sellers and buyers use this information they have on the demand and supply of commodities and thus eliminate the possibility of price manipulation by vested interests. The participants in the price discovery process would include producers, bulk consumers, processors, exporters, importers, arbitragers and investors. All these users participate in buying and selling of commodities based on various domestic and global parameters such as price, demand and supply, climatic and market related information. These factors, together, result in efficient price discovery, allowing large number of buyers and sellers to trade on the exchange. MCX is
40
communicating these prices all across the globe to make the market more efficient and to enhance the utility of this price discovery. Price risk management: Hedging is the practice of off-setting the price risk inherent in any cash position by taking an equal but opposite position in the futures market. This technique is very useful in case of any long-term requirements for which the prices have to be firmed to quote a sale price but to avoid buying the physical commodity immediately to prevent blocking of funds and incurring large holding costs. 5.3 Economic Benefits of the Futures Trading and its Prospects Futures contracts perform two important functions of price discovery and price risk management with reference to the given commodity. It is useful to all segments of economy. It is useful to producer because he can get an idea of the price likely to prevail at a future point of time and therefore can decide between various competing commodities, the best that suits him. It enables the consumer get an idea of the price at which the commodity would be available at a future point of time. He can do proper costing and also cover his purchases by making forward contracts. The futures 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. Other benefits of futures trading are: (i) Price stabilization-in times of violent price fluctuations - this mechanism dampens the peaks and lifts up the valleys i.e. the amplitude of price variation is reduced. (ii) Leads to integrated price structure throughout the country. (iii) Facilitates lengthy and complex, production and manufacturing activities. (iv) Helps balance in supply and demand position throughout the year. (v) Encourages competition and acts as a price barometer to farmers and other trade functionaries.
41
Futures trading is also capable of being misused by unscrupulous speculators. In order to safeguard against uncontrolled speculation certain regulatory measures are introduced from time to time. They are: a. Limit on open position of an individual operator to prevent over trading; b. Limit on price fluctuation (daily/weekly) to prevent abrupt upswing or downswing in prices; c. Special margin deposits to be collected on outstanding purchases or sales to curb excessive speculative activity through financial restraints; d. Minimum/maximum prices to be prescribed to prevent future prices from falling below the levels that are unremunerative and from rising above the levels not warranted by genuine supply and demand factors. During shortages, extreme steps like skipping trading in certain deliveries of the contract, closing the markets for a specified period and even closing out the contract to overcome emergency situations are taken.
Prospects With the gradual withdrawal of the government from various sectors in the postliberalization era, the need has been felt that various operators in the commodities market be provided with a mechanism to hedge and transfer their risks. India's obligation under WTO to open agriculture sector to world trade would require futures trade in a wide variety of primary commodities and their products to enable diverse market functionaries to cope with the price volatility prevailing in the world markets.
42
6. Regulatory Board
Commodity exchanges in India are regulated by Forward Markets Commission. Forward Markets Commission (FMC) headquartered at Mumbai, is a regulatory authority which is overseen by the Ministry of Consumer Affairs, Food and Public Distribution, Govt. of India. It is a statutory body set up in 1953 under the Forward Contracts (Regulation) Act, 1952. " The Act provides that the Commission shall consist of not less than two but not exceeding four members appointed by the Central Government out of them being nominated by the Central Government to be the Chairman thereof. Currently Commission comprises three members among whom Shri B.C. Khatua, IAS, is the Chairman, Shri Ramesh Abhishek, IAS and Shri D.S.Kolamkar, IES are the Members of the Commission." The functions of the Forward Markets Commission are as follows: (a) To advise the Central Government in respect of the recognition or the withdrawal of recognition from any association or in respect of any other matter arising out of the administration of the Forward Contracts (Regulation) Act 1952. (b) To keep forward markets under observation and to take such action in relation to them, as it may consider necessary, in exercise of the powers assigned to it by or under the Act. (c) To collect and whenever the Commission thinks it necessary, to publish information regarding the trading conditions in respect of goods to which any of the provisions of the act is made applicable, including information regarding supply, demand and prices, and to submit to the Central Government, periodical reports on the working of forward markets relating to such goods; (d) To make recommendations generally with a view to improving the organization and working of forward markets;
43
(e) To undertake the inspection of the accounts and other documents of any recognized association or registered association or any member of such association whenever it considerers it necessary. (f) To perform such other duties and exercise such other powers as may be assigned to the Commission by or under this Act, or as may be prescribed. Powers of the Commission (1) The Commission shall, in the performance of its functions, have all the powers of a civil court under the Code of Civil Procedure, 1908 (5 of 1908), while trying a suit in respect of the following matters, namely: (a) Summoning and enforcing the attendance of any person and examining him on oath; (b) requiring the discovery and production of any document; (c) receiving evidence on affidavits; (d) requisitioning any public record or copy thereof from any office; (e) any other matters which may be prescribed. (2) The Commission shall have the power to require any person, subject to any
privilege which may be claimed by that person under any law for the time being in force, to furnish information on such points or matters as in the opinion of the Commission may be useful for, or relevant to any matter under the consideration of the Commission and any person so required shall be deemed to be legally bound to furnish such information within the meaning of Sec. 176 of the Indian Penal code, 1860 (45 of 1860). (3) The Commission shall be deemed to be a civil court and when any offence
described in Sections. 175, 178, 179, 180 or Sec. 228 of the Indian Penal Code, 1860 (45 of 1860), is committed in the view or presence of the Commission, the Commission may, after recording the facts constituting the offence and the statement of the accused as provided for in the Code of Criminal Procedure, 1898 (5 of 1898) forward the case to a Magistrate having jurisdiction to try the same and the Magistrate to whom any such case is forwarded shall proceed to hear the complaint against the
44
accused as if the case had been forwarded to him under Section 482 of the said Code1. (4) Any proceeding before the Commission shall be deemed to be a judicial
proceeding within the meaning of Sections 193 and 228 of the Indian Penal Code, 1860(45 of 1860).
45
7. Fundamental Analysis(Red Chilli)

Fundamental analysis focuses on the cause and effect which are external to the trading markets and affect the prices in the market. These factors can be weather, current inventory levels, government policies, economic indicators, trade balances. Few of the fundamental factors that a trader focuses on are: Demand and supply: Analysts give more emphasis on the demand and supply factors. This is basically because as the demand increases, supply remaining constant, the prices of the commodities raises and when the supply decreases and demand increases or remains the same, the price of that commodity rises. External event: Fundamental analyst focuses on the outcome of a particular event, i.e., what is the effect on the price of a commodity due to the occurrence of a particular event. These factors give an indication to the analyst as at what time the price of the commodity would increase or decrease. For example, unseasonal rainfall would destroy the crop. Such an external event would increase the price of that agricultural commodity. Public information: As public information is readily available to all, fundamental analyst study how and when this information is passed on to the price of the commodity and examine when the trade can take place. For example, news of discovery of new iron ore mines is available to all. Such news in the market would be reflected in the market in the form of decrease of prices of iron as he supply would increase. Although supply has not actually increased, just the news has impacted the prices. Agricultural fundamentals: In order to predict the price movement of the agricultural commodity, fundamentalists study the cropping pattern, last years carry over stock, this
46
years projected production, usage and ending stock. Fundamental analysts project the prices of the agricultural commodities by study the statistical data released by the government organization in the past and present and study how the price has moved in the similar situations. They also focus on the acreage and the yield numbers. Weather forecast during the cropping season also helps in determining the prices of the agricultural commodity. Thus, fundamentals play a very important role in determining the price of the commodity. Although, there would not be any short term change in the prices, fundamentals always impact the long term prices of the commodity. In the following chapters, an attempt is made to apply these fundamental factors and forecast the prices in the future.
7.1 Introduction
Chilly forms a very important culinary spice all over the world. It is basically used in preparation of beverages and in preparation of medicines. It belongs to the genus Capsicum, under the solanaceae family. It is believed to have its roots in South America and eventually spread all over the world. The fruit is available in different sizes, shapes and color. It is principally valued for its pungency and color. The important quality parameters that are looked for while selecting chilly are color, length, width, skin thickness and pungency. Chillies are grown all over India throughout the year and are thus available in 70 or so different varieties. The major chilly producing states in India are Andhra Pradesh, Karnataka, Madhya Pradesh, Maharashtra, Orissa, West Bengal, Rajasthan and Tamil Nadu. The various types chillies available are birds eye Chilly, Byadgi, Ellachipur Sannam S4 type, Guntur Sannam- S4,Hindpur S7, Jwala, Khatari White, Kashmir Chilli, Madhya Pradesh G.T Sannam. Each of these varieties is available in various shapes, sizes, colour and pungency. Each of it is known for its own specifications.Sannam-4 is primarily grown in Andhra Pradesh and accounts for around 30-35% of the total production .This is also the main variety that is exporting. If this single variety is offered for futures trading, it will be possible to offer relatively a homogenous product for futures trading.
47
The cropping of chillies starts from august and extends till October, while the harvesting starts from December onwards. About 5% of the arrivals of chilly are reported during this month. However, the major arrival season extends from February to April. Of all the states, Andhra Pradesh is the major producer of chillies with Guntur, Warangal, Khamam, Krishna and Prakasham are the major areas of production.
7.2 World Scenario

Although India is the major exporter in the world market, it exports on an average only 4% of its total production to the world market. India exports about 80000 to 1 lakh ton of chilly every year. Moreover, the supply of chillies is not constant mainly due to the erratic monsoon patterns and uneven demand within the country. Other than India, today China has also become an export giant in the world market and as a serious competitor to India. China is entering into all the major markets of the world such as USA and Indonesia. Japan is also known for its special variety chilly such as Birds eye, Santaka and Hontaka type of chillies. Since, the domestic demand in Japan itself is very huge it has not been able to become a major exporter of chilly. The imported chilly in the western countries is basically used in the food processing industry for its colour and pungency whereas in countries such as USA, UK, Germany and Sweden large quantities of chillies is used in the preparation of oleoresins and extracts. Apart from India, the major producers and exporters of chillies are China, Pakistan, Morocco, Mexico and Turkey.
7.3 Indian Scenario

India is world largest producer, consumer and exporter of chillies in the world. India also has largest area under cultivation of chillies in the world. India produces about 25% of the worlds total production, whereas it consumes 90% of its total production.
48
The area under cultivation according to the statistics in 2006 was around 30000-32000 hectares as compared to 35000 hectares in 2005. The production distribution all over the nation is as follows:
CHART -1
The production level can be influenced by the use of hybrid seeds and proper crop management. Thus, the increase in the production levels can increase the supply and decrease the prices which might probably lead to less interest of the farmers.
49
Area and Production of Chilli in India: Over the years the area under cultivation of chilly is decreasing due to the increase in productivity of the crop. The yield has increased over the years due to the use of hybrid seeds and better crop management. This has resulted increase in the crop decreasing the price of the chilly. Decrease in the prices has disincentivized the farmers to grow more red chilly crops and hence they have shifted to alternative crops, thus decreasing the area under cultivation.
7.4 Trade Statistics

Indias export market is observing an upward trend during the past few years and is assumed to remain so looking at the global demand of chillies. India mainly exports to Sri lanka, USA, Nepal, Mexico and Bangladesh. Of these USA, Sri Lanka and Mexico are the major importers of Indian chillies. The average percentage share of each of these nations can be observed as follows:
50
CHART - 3
India exports chillies in various processed forms namely, Chilli Powder, dried chillies, pickled chillies etc and it is mainly exported to USA, Sri Lanka, Bangladesh, Malaysia, Far East and the Middle East. Since India has already established markets in these areas, processed chilly can further give impetus to exports. Of the total exports, 72% is of dry chillies, 27% is of powder chillies and chilly seed is of about 1%. Looking at the statistics we can say that, there is sufficient room for the processed chilly in the export market. India produced 13,53,796 tonnes of chillies from an area of 801,070 hectares during 2008-09.As per Spices Boards estimates Indian export is 200,000 tonnes of chillies valuing Rs.1255.52 Crores during April- January 2010-11. Chillies are exported in the form of dry chillies, seeds, oil, chilli paste, chilli powder and pickled chillies. USA is importing chillies mainly in the form of paste and oil. In India, the well established spot markets are situated at Guntur, Warangal, Khamam in Andhra Pradesh; Raichur, Bellary in Karnataka as these are also production centre. The trade channel involves several members, viz, a village level trader, Commission agent, Wholesaler, retailer, agents for exporters and importers. Thus, the commodity changes several hands exposing all these members to price risk. During the peak arrival season in Guntur, around 0.8-1 lakh bags weighing 35-50 kgs are traded here daily. Around 35-40% of the crop that arrives at Guntur is estimated to be stored in the cold storages present at Guntur and surrounding areas. The arrival of chilly start in the last week of March in major markets and extends till May end.
51
7.5 Factors influencing prices

The price variation depends on the trade activities like the export, import, and domestic demand and crop conditions in the major crop growing countries. In India, there is no peak and low arrivals, as there is continuous supply of chilly all throughout the year. Traders stock the Chillies as soon as they arrive and sell them off when the demand increases and prices go up. Dry chillies and be stored for a period of about two years without any damage. The entire price fluctuations depend upon the supply- demand theory, i.e, when the supply goes up the prices fall and when the demand goes up the prices also go up. The prices of the major varieties sold in the country are co-related with each other. As a result the players in other varieties can hedge their risks through this single variety.
7.6 Market influencing factors

The major market influencing factors can be explained in short as follows: The commodity displays high volatility, with the prices heavily dependent on season, production in different producing tracts spread across the country, demand from exporters and the stock available at the cold storages. The prices of the major chilly variety sold in the country are correlated to each other. As a result, the players in the other varieties can also hedge their risks through this single variety. Historical price movement. Climatic conditions Shifting towards alternate crops. World demand Stock available in cold storages
52
7.7 Red Chilly Outlook

The price variation of chilly depends on the trade activities like import, export, and domestic demand and crop conditions in the major growing countries. To analyze the domestic price outlook above factors play an important role, these factors as compared with the historical prices will give us the proper price outlook on chilly. Since, Guntur market is the largest chilly market in Andhra Pradesh, an historical data of arrivals can give an brief idea of the price fluctuations in the market.
CHART-4
53
CHART-5
Arrivals in 2011:
Trade sources have confirmed that the stocks available in the cold storages in Guntur are 40-45 lakh bags of 40 kg each. Average daily arrivals at Guntur market are 25,000-30,000 bags of cold storage stocks. As per market sources, the total chilli production of the current year (2010-11) is likely at 250 lakh bags (1 bag = 40 kgs), down 16% from the last year. This was mainly due to unseasonal rainfall during the crop formation period in major chilli producing states such as Andhra Pradesh and Maharashtra. As per Spices Boards estimates Indian export is 200,000 tonnes of chillies valuing Rs.1255.52 Crores during April- January 2010-11 which is higher than last year. Due to heavy rains in Andhra Pradesh and Tamil Nadu, the second harvesting has been stopped. Also the harvested crops that were standing on fields were also damaged as the fields badly plunged into water. The crop that was stored
54
in the Guntur market was also damaged as the dark clouds were hovering over the market. There is a good demand for Chilli from Sri Lanka, Bangladesh, Singapore and Malaysia. Tamil Nadu Agricultural University projected earlier that prices of Red spice would continue to rise further in the next two months on strong demand against the projected lower crop. To facilitate the farmers in taking a decision on marketing of chillies, the Domestic and Export Market Intelligence Cell, Tamil Nadu Agricultural University analyzed the prices that prevailed in Virudhunagar market during the last ten years and predicted that the price will be ruling between Rs.77-91 per kg in April to June 2011. Higher prices will be received from May onwards. Hence farmers are recommended to store the red chilli and sell in May, June 2011. April 2011 futures price for chilli is being quoted at Rs.8514 per quintal. The prices are steadily rising from Rs.5260 per quintal from Aug 2010 with an expectation of less production during this year because of excess rainfall during fruit setting and less acreages sown for want of availability of labour due to employment guarantee scheme VIZ., MNREGA. Traders opined that in the next two months prices may touch Rs 100/kg due to decreased arrivals. Compared to last year, arrivals are very low during this year. Last year the normal arrival per day was 10000-12000 bags but this year it is only 1000 to 2000 bags. On June 8th, 2011 Chilli 334 prices stood steady at Rs 8,600 per quintal in the Guntur spot market with the total arrivals steady at around 35,000 bags. The strong export demand for chilli, less arrivals and fire accidents at Guntur spot market may be the reasons for rise in prices. we can say that the chilly futures would be bullish in the near term.
55
The above analysis can be justified from the historical data also, as shown below,
CHART-6
As we can see from the above graph, the arrival curve and the price curve move in the opposite directions ,i.e., with the increase in the quantity of arrival, the price of the red chilly is decreasing and with the decrease in supply the prices of the commodity is rising. The usual pattern of the rise or decrease in the price of red chilly is dependent on the quantity of the chilly being supplied to the market. During the harvesting season, the supply of Red Chilly in the market increase leading to decrease in the price and in the other seasons the price increases due to non-availability of chillies in the market. In general, the price movement in the market can be observed from rand in the Guntur Chilly Market.
56
CHART-7
From the above graph we can conclude that in general following trend can be observed in the prices of the red chilly in general: Prices begin to rise in the month of June as the arrivals of red chilly cease to come to the market at the end of the month of May. The prices that are observed in the month of June, more or less tend to continue till the month of September and October. Due to the new arrivals in the month of November, prices fall from the high levels in the month of November and December. This trend continues till the month of January and February. The prices will fall further in the month of March due to new arrivals in the market. Based on the price trend and the current news in the market, we can conclude that chilly market would be bullish in the near future due to the supply constraints.
57
8. Company Profile
Establishment and network: Share khan is an 80 year old company and has its link to SSKI. Share Khan started as a retail arm of SSKI and slowly developed into a large organization having 704 share shops in 280 cities across the country. It has about 31,000 employees with a customer base of more than 5, 00,000. Share khan deals with wide variety of products namely equities, derivatives, commodities, IPO, mutual fund, research, portfolio management and other structured products. The mission of Share khan is to educate and empower the individual investor to make better investment decision through Quality Advice, Innovative products and superior service. It offers both offline and online services. It had launched its website www. Sharekhan.com in the year 2000 and now within a timeframe of 8 years almost 50% of the total services are given online to its customers. It is one of the most preferred website by all the customers as it provides a whole range of in depth research reports on top companies and commodities. All the information pertaining to any financial product is easily available on the companys website. Operations: Share Khan offers three modes of trade transaction means. They are Share shops A customer can directly visit any of the share shop to trade . Online trading A customer can trade on his own by using the online trading mode. Dial & trade A customer can ring up to any dealer or the relationship manager and can execute his trade. Thus, based on the convenience of the customer he can choose any of the above modes of transaction.
58
Services: Share Khan also offers different range of services depending on the profile of the customer. All the services are offered with the help of the exclusive research team consisting of 25 analysts in fundamental, technical and derivatives research team. These services are First step This service is for those customers who are investing for the first time. Classic This service is for customers who transact occasionally. Speed trade This service is for those customers who are very are day traders and participate actively in the market. Platinum Circle This service is exclusively for HNIs who are looking for personalized and exclusive investment and portfolio management services ( PMS) It provides continuous educational programs to guide their customers by means of seminars and workshops or by means of booklets and reports. Customer care is the top priority for Share Khan. Awards and recognition for Share khan: It is being rated among the top twenty wired companies along with Reliance, HLL, and Infosys etc by business today. It is awarded as one of the most preferred broker in India by the Awaaz Consumer Awards.
59
9. Primary Research
Getting Started.. At the start of our SIP, our very first objective was to understand the commodity markets and its dos and donts .After having understood the intricacies of the working and the functioning of the commodity market, our job was to approach traders, manufacturers, importers& exporters, and explain them the use of trading in the commodity markets. We basically discussed with them the advantages of hedging and how hedging can be beneficial to them. We also explained them how risk can be minimized by taking a position at the exchange. Plan of Action. In order to approach the traders, manufacturers, traders, importers/ exporters, we first created a plan of action by segregating all type of investors into agricultural traders, metal traders, bullion traders. The method of approaching each of these clients was different. As it was assumed that the agricultural traders would believe in a more personal approach whereas metal traders would believe in a more professional approach. The level of education and the experience in the trading played an important role in interacting with the customers. Interaction with Sugar Manufacturers and Chilly traders.. We focused our survey on two markets basically sugar industry and the chilly markets from the agricultural sector. For approaching these two markets, we first searched for the associations and big markets situated in the city of Hyderabad. On searching we got to know about The Indian Sugar Mill Association (http//www.indiansugar.com/.) and then for the South Indian States the association is known as The South Indian Sugar Mill Association (SISMA). We then had a telephonic conversation with the General Secretary of the SISMA Mr. R.S.Bhale Rao and then fixed up appointment with him. Then we went to the association and collected the whole database of sugar mills and the traders situated in the city. After
60
having collected the database, we sent all of them informative mail regarding the advantages of hedging and price risk management. For approaching the chilly market traders, we went to the biggest chilly market in the city situated at Malakpet. It is next largest market in AP after Guntur. About 10% of the total chilly trade comes from this market. A large number of traders were located in a row. As month of March was the period of arrival of chilly in the market, most of the traders were very busy with their daily chores. But few of the traders gave us ten to fifteen minutes of their precious time and had a talk with us. They explained us the methodology of functioning of the chilly spot market. They also shared with us their experiences in the futures market. Our Findings: Very few traders traded in the futures market. This was basically because they were not fully aware of hedging and the benefits that can be accrued from it. They did not have the confidence in the technology that is adopted in trading, ie, the traders were not well-versed in accessing the internet. Thus, the traders were good businessmen but not very tech-savvy. Almost all the traders had the issues regarding the delivery system, as there are not enough warehouse of the exchanges situated at nearby distances. Thus adding additional cost of transportation to the traders. Few of the traders had issues regarding the quality specification of the chillies and told that the quality specification prescribed by the MCX and NCDEX is very rigid and is difficult always to arrange for such a specification of the product. We also asked them to fill up a questionnaire for us, whose analysis and discussion will be provided in the following chapters. Understanding the metal manufacturers. After understanding the scenario in the agricultural markets, we then focused our primary research on the metal traders. As we already had an interaction with the chilly traders, with were now in a position to understand the practical aspect of traders view point. For approaching the metal traders we sought two way methodologies, first we
61
collected the list of all the metals manufacturers, corporates database from the Share Khan and also searched for the list of various metals association situated in the city of Hyderabad. We again sent an informative mail to all these manufacturerss, traders regarding hedging and risk management we also received responses from few of them. As there is no association situated in the city, we planned to visit the largest industrial area in the city Balanagar. There are a quite a few number of metal manufacturers situated in this industrial area. We interacted with the head of the purchase and the finance departments and asked them to fill-up our questionnaire. Our Inference: Manufacturers were aware of what hedging is and few of them practiced it also. Few of these hedged their position in the London Stock Exchange and other international commodity exchanges. Very few manufacturers hedge their position in the Indian markets as they believed that the Indian markets are not mature enough to participate in trading. The Bullion Traders. After having covered the metal markets, we focused our study on the Bullion markets, more specifically on gold traders. Gold is the most actively traded commodity over the exchange. More amount of liquidity is observed in the MCX exchange. Hence, there would be a greater opportunity of trading and hedging for its investors. Keeping in view this point, we focused more on gold rather than on silver. We interacted with the Gold Merchants situated in Begaum Bazar, Hyderabad. We selected this bazaar as most of the citys oldest Jewelers are situated in this area. We interacted with these merchants and tried to explain them the importance of hedging and how it can be beneficial to them. Very few merchants showed interest in our conversation as they already had a blind belief that trading in commodity market is just like gambling. After having in depth discussion with the merchants, we came to know the main reason for reluctance is that they had suffered huge losses in the past and are now scared to invest more in the same market.
62
But other than these few, some merchants who had knowledge about hedging traded over the exchange to protect themselves from the price fluctuations. These discussions with the merchants were of great help as it helped us in the analysis of the primary research. Opportunity with HNIs. Share Khan Pvt Ltd. had organized an educational campaign for the HNIs at the hitech city Hyderabad. The main objective of the campaign was to educate the HNIs about various investment opportunities available in the market. It was a two day program and we had an great opportunity to interact with the HNIs and understand their perspective about the market. As we had a pretty good exposure to the market movements and other technicalities of trading at Share khan we were given the responsibility to explain the HNIs about the companys product. Most of the HNIs there were either NRIs or working for big MNCs such as Google, Microsoft, etc. Others were lawyers, Judges etc. We observed the following from the interaction with these clients. All the clients were well informed about the happenings in the market. They had very huge portfolios which basically included mutual funds and diversified stocks. Very few people invested in commodities which was basically lack of awareness about the commodity markets. People, who invested, invested only for the speculation purpose only and to book profits. We also asked them to fill in the questionnaires and got a positive response from them. Investors at Share khan.. We also interacted with the investors visiting the Share Khans office. We also asked them to fill up the questionnaires and tried to understand their perception about the commodity market and the equity market as a whole. Investors at Share khan were more of a learning opportunity to us.
63
Value Addition to Share Khan: Summer Internship Program at Share Khan was a great learning opportunity for me as the entire duration of the course was equally distributed in gaining theoretical knowledge about commodities and the practical exposure provided by them in terms of meeting the clients. The employees at Share khan were always readily available for clarifying my doubts in every petty issue. With the support of my Company guide and the employees I was successful in attaining the following goals for Share Khan: I was able to get new clients for Share Khan. During the course of my interaction with the clients, I propagated about the services offered by Share Khan. Thus, I made an attempt to make its presence feel among the investors in Hyderabad.
64
10. Analysis and Interpretation of the Primary Research

Objective: The objective is to test whether the awareness of the commodity markets and the stock market is the same. Analysis of Respondents: To determine the number of people who have any kind of trading account in equities or in commodities.
As we can see from the above pie-chart, 77% of the respondents have a trading account either with Share khan or with any other firm and the rest of them, i.e., 23% of the respondents do not have any kind of trading account for equities or commodities.
65
Of all the respondents, 14% are businessman, 61% work for an organization, 1% is exporter and importer, 23% are trader and 1% is others. Thus, maximum people that were surveyed were service people and traders. So, the results of the analysis can be applied to the service people in general. The service people also include the HNIs and general salaried people. Analysis of awareness of commodity markets in comparison to Share Markets: Chi-Square Analysis: Hypothesis: Null Hypothesis: Ho: There is no significant difference between the level of awareness between the investors of the share market and that of the commodity market. Alternate Hypothesis: Ha: There is significant difference between the level of awareness between the investors of the share market and that of the commodity market.
66
Statistical test to be used: Chi-square test would be used to test the null hypothesis. Significance level: The level of significance to be used for the test is 0.05, i.e., =0.05 Calculations: Observed Frequency table: Strongly Agree Agree Neutral Disagree Strongly Disagree Total
Awareness about shares
15
54
13
100
Awareness about futures 20 and options
32
16
31
100
Awareness
about 12
51
20
17
100
Commodity market
Awareness Hedging
about 14
40
20
16
10
100
Total
61
177
65
77
20
400
67
Calculation of expected frequency: E (15) = (61100)/ 400 = 15.25 E (54) = (177100)/400 = 44.25 E (9) = (65 100)/400 =16.25 E (13) = (77 100)/400 =19.25 E (9) = (20 100)/400 = 5 E (20) = (61100)/ 400 = 15.25 E (32) = (177100)/400 = 44.25 E (16) = (65 100)/400 = 16.25 E (31) = (77 100)/400 = 19.25 E (1) = (20 100)/400 = 5
Similarly, expected frequencies can be calculated for other parameters also. Expected Frequency Table: Strongly Agree Agree Neutral Disagree Strongly Disagree Total
Awareness about shares
15.25
44.25
16.25
19.25
100
Awareness about futures 15.25 and options
44.25
16.25
19.25
100
Awareness
about 15.25
44.25
16.25
19.25
100
Commodity market
Awareness Hedging
about 15.25
44.25
16.25
19.25
100
Total
61
177
65
77
20
400
68
Calculation of the Chi-square: Observed Frequency Expected Frequency (O-E) (O-E)^2 (O-E)^2/E
(O)
(E)
15
15.25
- 0.25
0.0625
0.004098
54
44.25
9.75
95.0625
2.15
16.25
-7.25
52.5625
3.23
13
19.25
- 6.25 39.0625
2.03
16
3.2
20
15.25
4.75
22.5625
1.48
32
44.25
-12.25 150.0625 3.39
16
16.25
-0.25
0.0625
0.0039
31
19.25
11.75
138.0625 7.172
-4
16
3.2
12
15.25
-3.25
10.5625
0.6926
51
44.25
6.75
45.5625
1.03
69
Observed Frequency Expected Frequency (O-E)
(O-E)^2
(O-E)^2/E
(O)
(E)
20
16.25
3.75
14.0625
0.8654
17
19.25
-2.25
5.0625
0.2630
-5
25
14
15.25
-1.25
1.5625
0.1025
40
44.25
-4.25
18.0625
0.4081
20
16.25
3.75
14.0625
0.8654
16
19.25
-3.25
10.5625
0.5487
10
25
Chi- Square = (O-E) ^2 / E = 40.64 Degrees of freedom = (r-1) (s-1) = (4-1) (5-1) d.f = 12 Theoretical value of chi-square at d.f =12 and level of significance 0.05 is 21.026
70
Conclusion: Since, the calculated value is more than the theoretical value; we reject the null hypothesis and conclude that statistically there is significant difference between the level of awareness among the investors of shares and investors of commodity markets. Interpretation: The awareness about the commodity market is less as compared to the equity market as the commodity markets are still in the nascent stage and need some more time to get mature. Objective 2: The objective is to determine whether people who trade in futures and options of the stock market trade in commodity market also or not. Hypothesis: Null Hypothesis: Ho There is no significant difference between people who trade in futures and options in the share market and that of the people who trade in commodity market. Alternate Hypothesis: Ha There is a significant difference between people who trade in futures and options in the share market and that of the people who trade in commodity market. Statistical test to be used: Chi-square test would be used to test the null hypothesis.
Significance level:
The level of significance to be used for the test is 0.05, i.e., =0.05
71
Calculations: Observed frequency table: Strongly Agree Agree Neutral Disagree Strongly Disagree Total
Trade in Stock Futures 8 & Options
28
27
25
12
100
Trade futures
in
Commodity 1
20
24
41
14
100
Total
48
51
66
26
200
Expected frequency: E (8) = 9100/200 = 4.5 E (28) =48 100/200 = 24 E (27) = 51100/200 =25.5 E (25) = 66100/200 = 33 E (12) = 26 100/200 =13 E (1) = 9100/200 = 4.5 E (20) =48 100/200 = 24 E (24) = 51100/200 =25.5 E (41) = 66100/200 = 33 E (14) = 26 100/200= 13
72
Expected frequency: Strongly Agree Agree Neutral Disagree Strongly Disagree Total
Trade in Stock Futures 4.5 & Options
24
25.5
33
13
100
Trade futures
in
Commodity 4.5
24
25.5
33
13
100
Total
48
51
66
26
200
Calculations for Chi- Square: Observed (O) Frequency Expected (E) Frequency (OE) (O-E)^2 (O-E)^2/E
4.5
3.5
12.25
2.72
28
24
16
0.667
27
25.5
1.5
2.25
0.0882
25
33
-8
64
1.9392
12
13
-1
0.0769
4.5
-3.5
12.25
2.722
73
20
24
-4
16
0.667
24
25.5
-1.5
2.25
0.0882
41
33
64
1.9393
14
13
0.0769
Chi- Square = (O-E) ^2 / E = 10.99 Degrees of freedom = (r-1) (s-1) = (2-1) (5-1) d.f = 4 Theoretical value of chi-square at d.f = 4 and level of significance 0.05 is 9.488 Conclusion: Since, the calculated value is more than the theoretical value; we reject the null hypothesis and conclude that statistically there is significant difference between people who trade in futures and options of stock and people who trade in commodity market. Interpretation: People who trade in futures and options of the equity market do not trade in the commodity market possibly due to the following reasons: As the commodity markets are not yet mature the number of participants is very less, due to which the liquidity is less as compared to the stock markets.
74
The minimum margin money required for trading in commodity futures is more as compared to the margin money required for trading in the share market. The awareness of the commodity futures is less as compared to the stock futures and options. Objective- 3 The objective is to analyze the purpose of usage of the commodity market by the people participating in commodity market.
From the above pie-chart we can conclude that, of all the participants in the commodity market only 14% trade for the purpose of hedging.
75
Of the total participants in the commodity market, 31% of them trade as speculators. The basic aim of the speculators is to book profit. These are that segment of the investors who actually do not have interest in the physical possesion of the commodity, but trade in the commodity market to book profit only. Intepretation: Most of the people participating in the commodity markets trade only as speculators and not as hedgers due to the following reasons: Hedgers have a problem with the delivery mechanism of the goods, hence they would prefer squaring off their position rather than taking the delivery of the goods. Historical data shows that there is a greater scope of high returns ( more than 25%) in the commodity markets, high returns incentivizes the speculators to invest more for profit maximisation. As compared to the total market participants, very few people participate in the commodity markets due to the high risk involved in the commodity markets.
76
Objective -4 The investment attitude of the investors while investing in any kind of asset.
From the above graph we can see that 77% people invest in any asset class for achieving high returns.
77
From the graph above we can say that security in the investing in any asset class is the most important for the investors. Interpretation: From the above two pie charts we can conclude that people give first priority to security in investments and then to the high returns on the investments. This might be the probable reason for not investing in commodity markets by most of the people as the commodity markets are more risky. Lack of awareness is also additional reason for not investing in the commodity market. Objective -5 The next objective is to do the profiling of the customer. Methodology: The profiling of the customer would be done with the help of the Discriminant analysis. Using Discriminant analysis an equation would be developed using which we can categorize, whether a customer would be a prospective client or not. The responses were collected while interacting with the customers with the help of the questionnaires. The data collected is in the form of nominal data. So, in order to analyze such a nominal data, numeric values from 1 to 4 or5 are being assigned to the data and then it is entered in the SPSS. For example, if the response of a particular customer is Businessman ( See Annexure-1) then it is entered as 1 in the SPSS. Other responses are also entered in the similar way. The Discriminant analysis would be done by using the SPSS software. The output can be analyzed in the following way. Null Hypothesis: Ho: The clients cannot be grouped in to two categories based on few discriminating variables.
78
Alternate Hypothesis: Ha: The clients can be grouped into two categories based on few discriminating variables. The Discriminant analysis would be done by using the SPSS tool. The output can be analyzed in the following way. Eigen value table: Eigen values Canonical Function Eigen value % of Variance Cumulative % Correlation
2.307(a)
100.0
100.0
.835
First 1 canonical Discriminant functions were used in the analysis. Interpretation: The larger the Eigen value, the more the variance in the dependent variable is explained by the discriminating function. Since the dependent in our case has only two categories, there is only one Discriminant function. The two categories are whether a customer is a prospective client or not. The second column explains the variance explained by each of the Discriminant function. The third column is the cumulative percent of the variance explained. The last column is the canonical correlation, explains the percent of variation in the dependent variable discriminated by the independents in the Discriminant function.
79
Wilks Lambda table: Wilks' Lambda Test Function(s) of Wilks' Lambda Chisquare df Sig.
.294
116.238
.000
Interpretation: Wilks lambda is used to test the significance as a whole. Since, the value of Wilks lambda is low, i.e., near to zero, we can reject the null hypothesis and accept alternate hypothesis. Thus, we can say that customers can be classified as prospective clients or not on the basis of few variables. These variables can be selected on the basis of the correlations observed by the Discriminant function and the independent variables. Greater is the correlation better is the variable as a predictor. Standardized Canonical Discriminant Function Coefficients Function
PROFESSION
-.001
ANNUAL INCOME
.640
FUTURE EXPECTATION
.064
SAVE ANNUALLY
.346
80
DURATION INVESTMENT
OF
-.230
RETURN EXPECTATION
-.438
Interpretation: The values in the above table indicate the relative importance of the independent variables in predicting the dependent. Thus, we can say that annual income, amount saved annually and return expected have relative importance in predicting the independent. Structure Matrix Function
ANNUAL INCOME
.885
SAVE ANNUALLY
.679
RETURN EXPECTATION
-.383
FUTURE EXPECTATION
.239
DURATION INVESTMENT
OF
-.064
81
PROFESSION
.026
Pooled within-groups correlations between discriminating variables and standardized canonical Discriminant functions Variables ordered by absolute size of correlation within function. Interpretation: The values in the structure matrix are the correlation values of each variable with the Discriminant function. Thus, we can observe that annual income, the amount saved annually and the return expected per annum have high correlations with the Discriminant function. These can be used as the major predictors of the function Canonical Discriminant Function Coefficients Function 1
PROFESSION
-.002
ANNUAL INCOME
.990
FUTURE EXPECTATION
.067
SAVE ANNUALLY
.799
DURATION INVESTMENT
OF
-.277
RETURN EXPECTATION
-.653
82
(Constant)
-.422
Unstandardized coefficients Interpretation: The table above has unstandardised discriminant function co-efficient. The values above are used to construct the prediction equation which can be used to classify the new cases. If the data of all the independents are available, we can use them all to predict the category. If all the data is not available, three important parameters namely, annual income, savings per year and expectation about the returns can be used to categorize the variable. Functions at Group Centroid TRADING A/C Function
1.959
-1.200
Unstandardized canonical Discriminant functions evaluated at group means Interpretation: The table above is used to determine the cutting point of the two cases. Since the two groups are not equal the cutting point is not the centroid but the average of the two cutting values. Cases which lie above the cutting point are classified as people who would like to have a trading account and those which lie below the cutting point are classified as people who would not like to have a trading account.
83
Thus, from the above Discriminant analysis we can form the following classifying equation. Trading A/c = -0.002profession+0.990Annual income +0.067Future
Expectation+0.799 save annually 0.277duration of Investment 0.653 return expectation 0.422 The values of each of the variable can be taken from the questionnaire (Annexure -1) In our case, the value of the centroid is 0.3795. Thus, if the value of the above equation comes more than 0.3795, we can say that the customer is the prospective client for the company and if the value lie below 0.3795 we can say the customer is not a prospective client for the company.
84
11. Conclusion and Limitation of Primary Research

Conclusion: India is an agrarian country producing a large variety of crops. It also stands as one of the leaders in the production of wheat, spices and other such crops. For such a country like ours, commodity futures trading can prove to be an excellent opportunity to the famers and other such traders for efficient price discovery. Commodity trading can also be used as a hedging tool for minimizing risk against future price fluctuations. In order to attain the actual objective of commodity trading, there should be adequate awareness among these farmers, traders, manufacturers, importers and exporters. But according to the primary research, we have concluded that the awareness level about the commodity market is very less and there is a long way to go to reach the actual beneficiaries of these markets. One can say this because the awareness level among the qualified and educated people is itself low so it will take a long period of time to reach these farmers. The main reason for this lack of awareness is due to the nascent markets and the mechanism of their operations. Almost all the commonly traded commodities are present over the exchanges; most of the market participants prefer forward contracts over the exchange traded futures contracts. The participants who prevail in the market have issues regarding the delivery mechanism and the specification standards of the contract. Also, as only very few large players exist in the markets, monopoly is being created by them and thus efficient price discovery is unable to take place. People prefer the security in the investments in the assets as compared to the high returns on those particular assets. As an asset class, commodity market s are said to have high risk with high returns. So, not many people who have knowledge about commodity trading participate in the markets. Primary research also reveals the fact that the amount of speculator as more as compared to the number of hedgers in the commodity markets. Due to this fact, although the volumes are high, the actual amount of delivery is very meager.
85
Discriminant analysis reveals that the investment in an asset class by any investor depend on his annual income, the amount he saves annually and the expectations of the returns. Limitations of the research: The analysis result and its interpretations are limited to the city of Hyderabad only. The random sampling technique has been used for the primary research, i.e., no segregation is done on the basis of the age, gender, type of trading ( Equity or commodities ) The research analysis may or may not be extended to the other parts of the state or to the nation as a whole. The survey is done among those investors who have some knowledge of trading and not of the general public. Survey is done among the qualified people only and the uneducated people have not been considered for analysis.
86
12. References
Websites www.mcxindia.com www.ncdex.com www.nseindia.com www.sharekhan.com www.nationalspotexchange.com www.sripadonline.com www.fmc.gov.in
http://www.agedwards.com/public/research/FuturesReports http://www.religarecommodities.com/research_Intro.asp http://www.karvycomtrade.com/commodity_derivatives.asp http://www.commodityresearch.in
87
88

Commodity Market

Hochgeladen von

Dokumentinformationen

Originalbeschreibung:

Copyright

Verfügbare Formate

Dieses Dokument teilen

Dokument teilen oder einbetten

Freigabeoptionen

Stufen Sie dieses Dokument als nützlich ein?

Sind diese Inhalte unangemessen?

Copyright:

Verfügbare Formate

Commodity Market

Hochgeladen von

Copyright:

Verfügbare Formate

Commodity Markets in India