Frontier India Current Affairs

Written on June 16, 2008 – 3:10 pm | by FICA |

Indian commodity market which expanded by 50 times in a span of 5 years from Rs.66530 crore in 2002 to Rs.3,3753,36 crore in 2007, is now expected to grow at a steady speed of about 30% by 2010 and touch a volume of Rs.74,156,13 crore since people’s participation in such trade would continue, according to findings of the ASSOCHAM.

In 2003, the size of commodities trade stood at Rs.129364 crore which thereby went to Rs.571759 crore in 2004, recording an increase of 341%. In 2005, the growth in commodities trade was by 276% as it went up at Rs.2,155,122 crore. However, in 2006, though the commodities trade increased to Rs.2,739,340 crore, it could register year on year growth of 27% over the last year. For 2007, the trade in commodity reached at Rs.33,753,36 crore and registered a growth of 23%, say the ASSOCHAM findings.

Releasing the ASSOCHAM estimates, its President, Mr. Sajjan Jindal said that the growth in commodities derivatives trading which was at massive level in the last five years would now grow by about 30% to reach projected level of Rs.7415613 crore in next 2 years.

The turnover as proportion to GDP of commodity trade increased from 4.7% in 2004 to 20% in 2007 and is expected to go up many folds since commodity markets would remain friendly to its subscribers.

The daily average volume of trade in commodities exchanges by December 2007 was over Rs.12,000 crore, said Mr. Jindal. Gold, silver and crude recorded the highest turnover in MCX while in NCDEX, soya oil, guar seed and soyabean and in NMCE pepper, rubber and raw jute were the most actively traded commodities on an average. This trend is likely to continue.

The study points out that futures trading in commodities results in transparent and fair price discovery on account of large-scale participation of entities associated with different value chains. This reflects upon the views and expectations of a wide section of investors related to that commodity. It provides an effective platform for price-risk management for all segments of players ranging from producers, traders, processors, exporters/importers and the end-users of a commodity.

The delivery and settlement procedure differs for each commodity in terms of quality implications, place of delivery, options, penalties and margins, and are defined comprehensively by the exchanges. Members of an exchange can perform and clear transactions in only those contracts which are exchange specified and approved by the Forward Market Commission (FMC).

On constraints, major challenges and policy options of commodities futures, the study points out that Commodity futures markets are the strength of an agricultural surplus country like India. Commodity exchanges play a pivotal role in ensuring stronger growth, transparency and efficiency of the commodity futures markets. This role is defined by their functions, infrastructure capabilities, trading procedures, settlement and risk management practices. However, Indian commodity exchanges are still at a nascent stage of development as there are numerous bottlenecks hampering their growth.

The institutional and policy-level issues associated with commodity exchanges have to be addressed by the government in coordination with the FMC in order to take necessary measures to pave the way for a significant expansion and further development of the commodity futures markets. Some of the major problems associated with commodity markets in India include infrastructure, trading system, broking community, controlled market, integration of regional and national exchanges as also integration of spot and futures markets.

Infrastructure: The lack of efficient and sophisticated infrastructural facilities is the major growth inhibitor of the Indian commodity futures markets. Though some exchanges occupy large premises, they are deficient in terms of the necessary institutional infrastructure, including warehousing facilities, independent and automated clearing houses, transparent trading platforms, etc.

Trading System: Though the operations of national exchanges are carried out through the electronic trading system, a majority of the regional exchanges continue to trade via the open outcry system. In order to attract a greater number of investors towards sector-specific commodities, regional exchanges must introduce the electronic trading system to assure the investors of transparency and fairly priced commodities.

Broking Community: Though a large number of members exist in the exchanges’ records, most of them are not involved in trading due to the fact that the business is not highly profitable in comparison to equities. Therefore, it is important to absorb a large number of broking firms that have diversified into stock broking and other related businesses. To attract active traders to commodity futures, the regulatory authority needs to introduce a more stringent code of conduct in setting standards for brokers, imposing capital adequacy norms, defining qualification criteria, etc.

Controlled Market: Price variability is an essential pre-condition for futures markets. Any deviation in the market mechanism or where the free play of supply and demand forces for commodities does not determine commodity prices will dilute the variability of prices and potential risk. For a vibrant futures market, it is imperative that commodity pricing must be left to market forces, without monopolistic government control. However, in India, scores of commodities in which futures trading is permitted are still protected under the ECA, 1955.

Integration of Regional and National Exchanges: From a wider standpoint, it is essential to integrate the regional exchanges with the national exchanges to achieve price discovery for regional exchanges to be driven by broad-level prices prevailing at the national exchanges. Secondly, this integration will facilitate the creation of more efficient markets as price discovery will become dependent on domestic demand and supply of commodities.

Integration of the Spot and Futures Markets: The integration of the spot and futures market is another critical factor for the expansion of the commodity futures market in India. The spot market in commodities is largely controlled by the state governments.