Commodity exchanges

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Futures

Are contracts to buy or sell a fixed quantity and quality of a particular commodity for delivery at a fixed date in the future at a fixed price.

Forward contract

The seller undertakes to provide the client with a fixed amount of a commodity on a fixed future date at a fixed price. Help with essay on commodity exchangesDifference between futures and forward contract

The former is a once-only deal (while futures contracts are standardized contracts), which cannot be closed out by a matching transaction.

Need for future trading

•To improve the price discovery process in the commodity.

More transparency because now farmers will have complete access to information and hence will get a better price for their produce

No monopoly because more no. of players would be involved in the trading

•To facilitate the management of risk which can lead to efficient management of resources

Preconditions for future trading

•A stable and credible currency,

•Reliable credit markets,

•Existence of financial institutions,

•A system that can enforce repayment rules and provisions for liquidation in cases of bankruptcy.

Prerequisites for commodity market

•Storage and delivery facilities

•Quality control systems and agencies Clearing House

•Facility for trading

•Large number of participants

•Team of surveyor and assessors

•Dissemination of information relating to trading

Benefits of commodity exchange

Economic benefits by

•Price discovery and hedging

•Improved Export Competitiveness

•Reduced processing margin risks

•Indirect benefit to farmers

•Facilitates access to credit

•Improved product standards

Benefits to traders, farmers and banks

•Traders Inventories to trading instruments, lower cost of credit, shorter supply chain

•Farmers Storage, Loans, Reduced risks

•Banks Reduced risk in Loans, More business

Online trading mechanism

•Transparency in governance and functioning of the exchange.

•Information dissemination without delay to the offerors and the bidders simultaneously.

•Convergence of all the offers and bids emanating from all over the country in a Single Electronic Order Book of the Exchange

About the exchange

•Incorporated in December 001 to meet the challenges of globalization

to link the system so that trading could be conducted from any part in the country. The system has a central database and a trading sub-system.

•A clearing and risk-detecting mechanism is built into it.

•It provides efficient trading, clearing and settlement facilities

•Target turnover 1500 crore

Main promoters

•Central Warehousing Corporation (CWC),

•National Agricultural Co op. Marketing Federation of India Limited (NAFED),

•Gujarat Agro Industries Corporation Limited (GAICL),

•National Institute of Agricultural Marketing (NIAM),

•Gujarat State Agricultural Marketing Board (GSAMB) and

•Neptune Overseas Limited

CWC Warehouse receipt system

•Warehouse receipt system Established to boost the trading activity in the commodities, delivery in the underlying commodities.

•Warehouse Receipt issued by a Warehouse Man to a person depositing goods in the warehouse.

•CWC, Other potential warehouses complying with modern and standard requirements for preservation of standardized / graded commodities as may be guided by CWC

Features of the exchange

•Convergence of all the offers and bids emanating from all over the country in a Single Electronic Order Book of the Exchange ensuring equal access to all intermediaries.

•Participation of diverse interests like Importers, Exporters, Growers, Brokers, Traders, etc., using an electronic training system providing a fair, efficient and transparent commodities market. ( Exhibit-1)

•Fair Trading Practice ensured through checks and balances built-in in the System.

•Virtual Trading Environment using the-state-of- art information technology through an appropriate communication networking.

•Efficient, Guaranteed Clearing, Settlement & System enabling book entry settlement.

•Warehouse Receipt System based Delivery of Underlying Commodities meeting the current international standards, its endeavor is to fulfill its mission in letter and spirit.

•Real Time Price & Trade Data Dissemination

Commodities traded

•Cotton, castor, Safflower, Groundnut, Rape, mustard, Sunflower, cotton, sesame, Copra, Coconut, sugar, Crude palm oil, Soybean, vanaspati, rubber.

•Seeds, oil, Oil cakes

Regulation

•Forward Contracts (Regulations) Act 15

•The Essential Commodities Act - to control the production, supply and distribution of essential commodities. All agricultural commodities fall under the provisions of this Act.

Trading at NMCEIL

•Order driven Traders submit orders, matched against the existing orders in the order book

•Trading on anonymous basis without disclosing the counterparty.

•This provides transparency to the trading system.

•Trading members identify the clients on whose behalf the orders are placed or else the orders are accounted to their own account.

•Trading systems provides a time stamp for each order entered and trades executed.

•Trust based rather than rule based

Clearing and settlement systems

•In house clearing Connected to all the Clearing Members and the Clearing Banks

•surveillance, control, margining and clearing & settlement

•provides guarantee of financial performance of outstanding contracts to its clearing members

Membership

•Individuals, registered firms, corporate bodies and institutions

•Graduation, two years of experience

•Net worth- 50 Lakhs

•Paid up capital- 0 lakh

Rules and regulations

Contract Specifications The Quality specification in terms of Agmark specifications and grades

Price Quotation The units of commodity in which the price will be quoted.

Trading The units of commodity in which it will be traded per contract.(i.e. Price Quotation multiplied by multiplier factor)

Tick size The variation in the price quotation allowed on the Exchange.

Trading cycle example

Base price of the Futures Contracts previous day's closing value of the spot market. and on subsequent trading days will be the daily settlement price of the futures contracts.

Circuit breaker There will be a .5% band above or below the last closing price of the contract, to be extendable after 1 hour subject to receipt of online margin.

Off- Market deals/Negotiated Deals Not permitted in the system.

Password Every trader has a password it has an expiry date.

Every trading member of the Exchange shall be allowed to designate users as approved users

Fee structure

Annual subscription will be Rs.10,000/-

Transaction charges will be paise per Rs. 100/- with a minimum amount of Rs. 5,000/- per month per clearing/trading member.

Maintenance charges for the VSAT Rs. ,500/- per month per VSAT

Functioning of the exchange

DEALS Deals executed on the Exchange are eligible to be cleared and settled through the Exchange and shall be called Admitted Deals'

SETTLEMENT OF DEALS Admitted deals executed on a trading day, shall be cleared and settled on a netted basis, at the end of each day, as prescribed under the relevant regulation.

SETTLEMENT PROCEDURE Payment into the Exchange shall be made on the net of contracts and liabilities into the settlement account maintained by the Exchange before the commencement of the trading of the next day.

Pay-outs shall be made by the Exchange the same day.

Daily settlement price shall be the closing price of the commodity Futures Contracts of the trading day. Initially the closing price for each commodity futures contract shall be calculated as the weighted average of last 5 trades during last half an hour for that commodity futures contract

Final settlement price shall be the closing price the series of the commodity on the last trading day of the futures contract.

Base Capital

Minimum Base Capital

A Member is required to meet with the Minimum Base Capital requirements prescribed by the Exchange before activation as a Member.

Additional Base capital

As the initial security deposit is too low to cover the potential exposure of the Member, those Member who are willing to take higher exposure limits, can provide further security to the Exchange by way of cash, fixed deposit receipt, bank guarantee and pledge of securities

Initial Margins

Amount a trader should place with his broker at the time he places an order to buy or sell a futures contract

Various kinds of trading markets at the exchange

•Ready delivery market

Cash trade Same day settlement

Spot Trades Settled on third day

Weekly trades 6th day settlement

•Specific delivery market

Delivery obligation maturing beyond a period of 11 days

Counter party is known

•Futures Market

•All contracts are settled on daily basis at the daily settlement price till the final delivery of commodity on the expiry date.

•Auction Market to close out the positions of the members who have failed to pay-in their obligations

Other exchange associations in India

•In all there are around 18 such associations

•Only one association is recognized in a city or region for forward contracts in any single commodity group, with the view to minimize competition between associations.

•They have to apply for recognition from the Central Government

Their user composition

•Similar to western exchanges Nearly half of the trade is estimated to be speculative, conducted by day-traders contributing to the liquidity

•Rest is hedging with traders being the most active

•Farmers in India rarely use futures markets directly co-operatives, intermediaries, traders.

•Operate in regulated markets.

•Commission agents provide information and intermediating risk management transactions.

•Regulatory barriers prevent co-operatives from using commodity exchanges.

•Traders- very little share- poor access to credit

•Exporters- low exchange liquidity

•Brokers are most active

Other online exchanges

•London FOX London Commodity Exchange (LCE) cocoa, coffee, sugar, rubber, potatoes and grain

•CBOT- Chicago board of Trade maize, soya beans, crude soya bean oil, soya bean meal, oats

•Coffee, Sugar and Cocoa Exchange (CSCE)

Agmarknet

•It provides prompt and reliable information about what is happening in the market, what quantities are arriving and what prices are quoted

•It will enable farmers to take market based decisions and benefit other market users as well.

Survey

The survey was conducted by means of personal and online interviews by means of a questionnaire (Exhibit- ) to get an idea about how the trading and pricing decisions are made by them, the various factors being taken into consideration etc. A sample size of 10 was taken for the purpose.

The following were the various factors identified through the survey, which help traders in taking decisions about the pricing of the commodities

•crop seasons, harvest time

•When new crop is expected to come in mandi

•what is the crop estimation

•Festival season

•Time and trends of world markets.

•Factors influencing the decision of bidding.

•time of the year

•crop variety

•international trends

•natural calamities

The information is collected by the following means

•Information is all based on local level and on net where the international markets Trends can be seen and also consultants (market experts).

•Past trends of the commodity available on net or through journals or just being vigilant

•Fluctuations in the environment

Further suggestions

•Grading is one aspect which was emphasized by almost all the respondents, i.e. the commodities being traded must be available in graded form such the traders can take better decisions about the pricing and also will be more sure about the kind of quality they are going to get.

•Technical difficulties are faced by the traders who trade online. Because they are not very well verse with the computers and also the whole VSAT system being used.

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