Commodity Market with Reference to Crude Oil
Introduction Commodity Trading: Commodity trading is the market activity, which links the producers of the commodities effectively with their commercial consumers. Commodity trading mainly takes place in the commodity markets where raw or primary products are usually exchanged. The raw commodities here are traded on regulated commodities exchanges, in which they are bought and sold in standardized forms of contracts. Many different factors affect the prices of commodities. This includes taxes, money supply, and inflation.
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Other factors such as transportation and its costs, Politics, weather and technology and its changes can have an effect as well. If, for instance, you were speculating in gold, you would buy gold biscuits, nuggets if you feel the price would go up in the future and you would wait for some time and sell it when the returns are highest. If it were, the other way round it would be wise to sell it soon before the price further decreases. There is always a buyer and a seller involved in the trading process.
Even though the profits in the case of commodity are quite large, it is quite difficult and is practically impossible to make consistently correct decisions all the time about what and when to buy and sell. Commodities count as extremely lucrative investment opportunities due to their liquidity, as the speculators do not have to hold onto them. However, risk management strategies play an important role for commodity trading. Size of the market: The trading of commodities consists of direct physical trading and derivatives trading. Exchange traded commodities have seen an upturn in the volume of trading since the start of the decade.
This was largely a result of the growing attraction of commodities as an asset class and a proliferation of investment options which has made it easier to access this market. The global volume of commodities contracts traded on exchanges increased by a fifth in 2010, and a half since 2008, to around 2. 5 billion million contracts. During the three years up to the end of 2010, global physical exports of commodities fell by 2%, while the outstanding value of OTC commodities derivatives declined by two-thirds as investors reduced risk following a five-fold increase in value outstanding in the previous three years.
Trading on exchanges in China and India has gained in importance in recent years due to their emergence as significant commodities consumers and producers. China accounted for more than 60% of exchange-traded commodities in 2009, up on its 40% share in the previous year. Commodity assets under management more than doubled between 2008 and 2010 to nearly $380bn. Inflows into the sector totalled over $60bn in 2010, the second highest year on record, down from the record $72bn allocated to commodities funds in the previous year. The bulk of funds went into precious metals and energy products.
The growth in prices of many commodities in 2010 contributed to the increase in the value of commodities funds under management. Standardization U. S. soybean futures, for example, are of standard grade if they are “GMO or a mixture of GMO and Non-GMO No. 2 yellow soybeans of Indiana, Ohio and Michigan origin produced in the U. S. A. (Non-screened, stored in silo),” and of deliverable grade if they are “GMO or a mixture of GMO and Non-GMO No. 2 yellow soybeans of Iowa, Illinois and Wisconsin origin produced in the U. S. A. (Non-screened, stored in silo). Note the distinction between states, and the need to clearly mention their status as GMO (Genetically Modified Organism) which makes them unacceptable to most organic food buyers. Similar specifications apply for cotton, orange juice, cocoa, sugar, wheat, corn, barley, pork bellies, milk, feedstuffs, fruits, vegetables, other grains, other beans, hay, other livestock, meats, poultry, eggs, or any other commodity which is so traded. Commodities exchanges Derivatives in India In finance, a derivative is a security whose price is dependent upon or derived from one or more underlying assets.
The derivative itself is merely a contract between two or more parties. Its value is determined by fluctuations in the underlying asset. The most common underlying assets include stocks, bonds, commodities, currencies, interest rates and market indexes. Most derivatives are characterized by high leverage. The underlying is typically a tradable asset, for example, a stock or commodity, but can be a non-tradable such as the weather. The most common derivatives are futures, options, and swaps. The most common derivatives have a market alue and are traded on exchanges. Derivatives are usually categorized by: ?the relationship between the underlying asset and the derivative (e. g. , forward, option, swap); ? the type of underlying asset (e. g. , equity derivatives, foreign exchange derivatives, interest rate derivatives, commodity derivatives or credit derivatives); ? the market in which they trade (e. g. , exchange-traded or over-the-counter); and ? Their pay-off profile. Derivatives can be used for speculating purposes or to hedge (“insurance”).
For example, a speculator may sell deep in-the-money naked calls on a stock, expecting the stock price to plummet, but exposing him to potentially unlimited losses. Commodity derivatives Commodity In the original and simplified sense, commodities were things of value, of uniform quality, that were produced in large quantities by many different producers; the items from each different producer were considered equivalent. A basic good used in commerce that is interchangeable with other commodities of the same type. A good for which there is demand, but which is supplied without qualitative differentiation across a market.
Commodities are most often used as inputs in the production of other goods or services. Examples are petroleum and copper. The price of copper is universal, and fluctuates daily based on global supply and demand. Stereo systems, on the other hand, have many aspects of product differentiation, such as the brand, the user interface; the perceived quality etc. one of the characteristics of a commodity good is that its price is determined as a function of its market as a whole. Well-established physical commodities have actively traded spot and derivative markets.
Generally, these are basic resources and agricultural products such as iron ore, crude oil, coal, salt, sugar, coffee, aluminum, copper, gold, silver, palladium, and platinum. Soft commodities are goods that are grown, while hard commodities are the ones that are extracted through mining. There is another important class of energy commodities which includes electricity, gas, coal and oil. Electricity has the particular characteristic that it is either impossible or uneconomical to store; hence, electricity must be consumed as soon as it is produced.
The quality of a given commodity may differ slightly, but it is essentially uniform across producers. When they are traded on an exchange, commodities must also meet specified minimum standards, also known as a basis grade. The basic idea is that there is little differentiation between a commodity coming from one producer and the same commodity from another producer – a barrel of oil is basically the same product, regardless of the producer. Compare this to, say, electronics, where the quality and features of a given product will be completely different depending on the producer.
Some traditional examples of commodities include grains, gold, beef, oil and natural gas. The sale and purchase of commodities is usually carried out through futures contracts on exchanges that standardize the quantity and minimum quality of the commodity being traded. For example, the Chicago Board of Trade stipulates that one wheat contract is for 5,000 bushels (equals to 8 gallons or 35. 23 liters) and also states what grades of wheat (e. g. No. 2 Northern Spring) can be used to satisfy the contract. A commodity can be refined from a raw element, as oil is refined from petroleum.
A commodity can also be mined directly from the Earth, such as a metal, or it can also be an agricultural product, like eggs. In some cases, a commodity can be an abstract financial tool that is universal, such as the fluctuations in interest rates. Participants in derivative market Hedgers, Speculators and Arbitrageurs are required for a healthy functioning of the market. Hedgers and investors provide the economic substance to any financial market. Without them the markets would lose their purpose and become mere tools of gambling. Speculators provide liquidity and depth to the market.
Arbitrageurs bring price uniformity and help price discovery. The market provides a mechanism by which diverse and scattered opinions are reflected in one single price of the underlying. Markets help in efficient transfer of risk from Hedgers to speculators. Hedging only makes an outcome more certain. It does not necessarily lead to a better outcome. Commodities are increasingly attractive to investors who view them as an alternative asset class allowing them to improve return/risk profile Futures are the obvious instrument: •Liquidity, •Low transaction costs on the exchange, Absence of credit risk Hedgers: Hedgers are those who protect themselves from the risk associated with the price of an asset by using futures. A person keeps a close watch upon the prices discovered in trading and when the comfortable price is reflected according to his wants, he sells futures contracts. In this way he gets an assured fixed price of his produce. In general, hedgers use futures for protection against adverse future price movements in the underlying cash commodity. Hedgers are often businesses, or individuals, who at one point or another deal in the underlying cash commodity.
The holders of the long position in futures contracts (buyers of the commodity), are trying to secure as low a price as possible. The short holders of the contract (sellers of the commodity) will want to secure as high a price as possible. The commodity contract, however, provides a definite price certainty for both parties, which reduces the risks associated with price volatility. Hedging is a mechanism to reduce price risk inherent in open positions. A Hedge can help lock in existing profits. Its purpose is to reduce the volatility of a portfolio, by reducing the risk.
Hedging does not mean maximization of return. It only means reduction in variation of return. It is quite possible that the return is higher in the absence of the hedge, but so also is the possibility of a much lower return. Example: A silversmith must secure a certain amount of silver in six months time for earrings and bracelets for his business purpose. But what if the price of silver goes up over the next six months? Because the prices of the earrings and bracelets are already set, the extra cost of the silver can’t be passed onto the retail buyer, meaning it would be passed onto the silversmith.
The silversmith needs to hedge, or minimize her risk against a possible price increase in silver. How? The silversmith would enter the futures market and purchase a silver contract for settlement in six months time (let’s say June) at a price of $5 per ounce. At the end of the six months, the price of silver in the cash market is actually $6 per ounce, so the silversmith benefits from the futures contract and escapes the higher price. Had the price of silver declined in the cash market, the silversmith would, in the end, have been better off without the futures contract.
At the same time, however, because the silver market is very volatile, the silver maker was still sheltering himself from risk by entering into the futures contract. So that’s how a hedger used to minimize risk as much as possible by locking in prices for a later date purchase and sale. Hedge Ratio The Hedge Ratio is defined as the number of Futures contracts required to buy or sell so as to provide the maximum offset of risk. This depends on the • Value of a Futures contract; • Value of the portfolio to be Hedged; and Sensitivity of the movement of the portfolio price to that of the Index (Called Beta). The Hedge Ratio is closely linked to the correlation between the asset to be hedged and underlying (index) from which Future is derived. A hedger buys or sells in the futures market to secure the future price of a commodity intended to be sold at a later date in the cash market. This helps protect against price risks. Speculators Speculators are somewhat like a middle man. They are never interested in actual owing the commodity. They will just buy from one end and sell it to the other in anticipation of future price movements.
They actually bet on the future movement in the price of an asset. These participants include independent floor traders and investors. They handle trades for their personal clients or brokerage firms. A hedger would want to minimize their risk no matter what they’re investing in, while speculators want to increase their risk and therefore maximize their profits. In the commodity market, a speculator buying a contract low in order to sell high in the future would most likely be buying that contract from a hedge selling a contract low in anticipation of declining prices in the future.
LongShort HedgerSecure a price now to protect against future rising pricesSecure a price now to protect against future declining prices SpeculatorSecure a price now in anticipation of rising pricesSecure a price now in anticipation of declining prices Speculators have certain advantages over other investments they are as follows: •If the trader’s judgment is good, he can make more money in the futures market faster because prices tend, on average, to change more quickly than real estate or stock prices. •Futures are highly leveraged investments.
The trader puts up a small fraction of the value of the underlying contract as margin, yet he can ride on the full value of the contract as it moves up and down. The money he puts up is not a down payment on the underlying contract, but a performance bond. The actual value of the contract is only exchanged on those rare occasions when delivery takes place. Arbitragers: According to dictionary definition, a person who has been officially chosen to make a decision between two people or groups who do not agree is known as Arbitrator.
In commodity market Arbitrators are the person who takes the advantage of a discrepancy between prices in two different markets. If he finds future prices of a commodity edging out with the cash price, he will take offsetting positions in both the markets to lock in a profit. Move over the commodity futures investor is not charged interest on the difference between margin and the full contract value. MARGINS The aim of margin money is to minimize the risk of default by either counter-party. The payment of margin ensures that the risk is limited to the previous day’s price movement on each outstanding position.
Margin money is like a security deposit or insurance against a possible Future loss of value. There are different types of margin like initial margin, variation margin, maintenance margin and additional margin. Initial margin The basic aim of initial margin is to cover the largest potential loss in one day. Both buyer and seller have to deposit margins. The initial margin is deposited before the opening of the day of the Futures transaction. Normally this margin is calculated on the basis of variance observed in daily price of the underlying (say the index) over a specified historical period (say immediately preceding 1 year).
The margin is kept in a way that it covers price movements more than 99% of the time. Usually three sigma (standard deviation) is used for this measurement. This technique is also called value at risk (or VAR). Based on the volatility of market indices in India, the initial margin is expected to be around 8-10%. Mark-to-market margin All daily losses must be met by depositing of further collateral – known as variation margin, which is required by the close of business, the following day. Any profits on the contract are credited to the client’s variation margin account. Maintenance margin ome exchanges work on the system of maintenance margin, which is set at a level slightly less than initial margin. The margin is required to be replenished to the level of initial margin, only if the margin level drops below the maintenance margin limit. For e. g. If Initial Margin is fixed at 100 and Maintenance margin is at 80, then the broker is permitted to trade till such time that the balance in this initial margin account is 80 or more. If it drops below 80, say it drops to 70, and then a margin of 30 (and not 10) is to be paid to replenish the levels of initial margin.
This concept is not expected to be used in India. Additional margin In case of sudden higher than expected volatility, additional margin may be called for by the exchange. This is generally imposed when the exchange fears that the markets have become too volatile and may result in some crisis, like payments crisis, etc. This is a preemptive move by exchange to prevent breakdown. Cross margining this is a method of calculating margin after taking into account combined positions in Futures, options, cash market etc. Hence, the total margin requirement reduces due to cross-Hedges.
This is unlikely to be introduced in India immediately. Trading instruments Forward contract A Forward Contract is a cash market transaction in which a seller agrees to deliver a specific cash commodity to a buyer at some point in the future. In essence, it is a financial contract obligating the buyer to buy, and the seller to sell a given asset at a predetermined price and date in the future. No cash or assets are exchanged until expiry, or the delivery date of the contract. On the delivery date, forward contracts can be settled by physical delivery of the asset or cash settlement.
Forward contracts are very similar to futures contracts, except they are not marked to market, exchange traded, or defined on standardized assets. Forward contracts trade over the counter (OTC), thus the terms of the deal can be customized to fit the needs of both the buyer and the seller. However, this also means it is more difficult to reverse a position, as the counterparty must agree to canceling the contract, or you must find a third party to take an offsetting position in. This also increases credit risk for both parties. The price specified in a cash forward contract for a specific commodity.
The forward makes the forward contract have no value when the contract is written. However, if the value of the underlying commodity changes, the value of the forward contract becomes positive or negative, depending on the position held. Forwards are priced in a manner similar to futures. Like in the case of a futures contract, the first step in pricing a forward is to add the spot price to the cost. Unlike a futures contract though, the price may also include a premium for counter party credit risk, and the fact that there is not daily marking to market process to minimize default.
If there is no allowance for this credit, then the forward price will equal the futures. Uses of forward contract Forward contracts offer users the ability to lock in a purchase or sale price without incurring any direct cost. This feature makes it attractive to many corporate treasurers, who can use forward contracts to lock in a profit margin, lock in an interest rate, assist in cash planning, or ensure supply of scarce resources. Speculators also use forward contracts to make bets on price movements of the underlying asset.
Many corporations and banks will use forward contracts to hedge price risk by eliminating uncertainty about prices. For instance, coffee growers may enter into a forward contract with Starbucks (SBUX) to lock in their sale price of coffee, reducing uncertainty about how much they will be able to make. Starbucks benefits from contract because it is able to lock in their cost of purchasing coffee. Knowing what price it will have to pay for its supply of coffee ahead of time helps Starbucks avoid price fluctuations and assists in planning. Risk of forward contract
Because no money exchanges hands initially, there is counterparty credit risk involved with forward contracts. Since you depend on the counterparty to deliver the asset (or cash if it is a cash settled forward contract), if the counterparty defaults between the initial agreement date and delivery date, you may have a loss. However, two conditions must apply before a party faces a loss: 1. The spot price moves in favor of the party, entitling it to compensation by the counterparty, and 2. The counterparty defaults and is unable to pay the cash difference or deliver the asset.
Futures Contract A contractual agreement, generally made on the trading floor of a futures exchange, to buy or sell a particular commodity or financial instrument at a pre-determined price in the future. Futures contracts detail the quality and quantity of the underlying asset; they are standardized to facilitate trading on a futures exchange. Some futures contracts may call for physical delivery of the asset, while others are settled in cash. The terms “futures contract” and “futures” refer to essentially the same thing.
For example, you might hear somebody say they bought “oil futures”, which means the same thing as “oil futures contract”. If you want to get really specific, you could say that a futures contract refers only to the specific characteristics of the underlying asset, while “futures” is more general and can also refer to the overall market as in: “He’s a futures trader. ” OPTION An option is a derivative financial instrument that establishes a contract between two parties concerning the buying or selling of an asset at a reference price.
The buyer of the option gains the right, but not the obligation, to engage in some specific transaction on the asset, while the seller incurs the obligation to fulfill the transaction if so requested by the buyer. The price of an option derives from the difference between the reference price and the value of the underlying asset plus a premium based on the time remaining until the expiration of the option. Other types of options exist, and options can in principle be created for any type of valuable asset. An option which conveys the right to buy something is called a call; an option which conveys the right to sell is called a put.
The reference price at which the underlying may be traded is called the strike price or exercise price. The process of activating an option and thereby trading the underlying at the agreed-upon price is referred to as exercising it. Most options have an expiration date. If the option is not exercised by the expiration date, it becomes void and worthless. Option valuation The theoretical value of an option is evaluated according to any of several mathematical models. These models, which are developed by quantitative analysts, attempt to predict how the value of an option changes in response to changing conditions.
For example how the price changes with respect to changes in time to expiration or how an increase in volatility would have an impact on the value. Hence, the risks associated with granting, owning, or trading options may be quantified and managed with a greater degree of precision, perhaps, than with some other investments. Exchange-traded options form an important class of options which have standardized contract features and trade on public exchanges, facilitating trading among independent parties.
Over-the-counter options are traded between private parties, often well-capitalized institutions that have negotiated separate trading and clearing arrangements with each other. Contract specifications Every financial option is a contract between the two counterparties with the terms of the option specified in a term sheet. Option contracts may be quite complicated; however, at minimum, they usually contain the following specifications. ?whether the option holder has the right to buy (a call option) or the right to sell (a put option) ? the quantity and class of the underlying asset(s) (e. . , 100 shares of XYZ Co. B stock) ? the strike price, also known as the exercise price, which is the price at which the underlying transaction will occur upon exercise ? the expiration date, or expiry, which is the last date the option can be exercised ? the settlement terms, for instance whether the writer must deliver the actual asset on exercise, or may simply tender the equivalent cash amount ? The terms by which the option is quoted in the market to convert the quoted price into the actual premium-–the total amount paid by the holder to the writer of the option.
SWAPS In finance, a swap is a derivative in which Counter parties exchange certain benefits of one party’s financial instrument for those of the other party’s financial instrument. The benefits in question depend on the type of financial instruments involved. For example, in the case of a swap involving two bonds, the benefits in question can be the periodic interest (or coupon) payments associated with the bonds. Specifically, the two counterparties agree to exchange one stream of cash flows against another stream. These streams are called the legs of the swap.
The swap agreement defines the dates when the cash flows are to be paid and the way they are calculated. Usually at the time when the contract is initiated at least one of these series of cash flows is determined by a random or uncertain variable such as an interest rate, foreign exchange rate, equity price or commodity price. The cash flows are calculated over a notional principal amount, which is usually not exchanged between counterparties. Consequently, swaps can be in cash or collateral. Swaps can be used to hedge certain risks such as interest rate risk, or to speculate on changes in the expected direction of underlying prices.
Swap market Most swaps are traded over-the-counter (OTC), “tailor-made” for the counterparties. Some types of swaps are also exchanged on futures markets such as the Chicago Mercantile Exchange Holdings Inc. , the largest U. S. futures market, the Chicago Board Options Exchange, Intercontinental Exchange and Frankfurt-based Eurex AG. Types of swaps The five generic types of swaps, in order of their quantitative importance, are: interest rate swaps, currency swaps, credit swaps, commodity swaps and equity swaps. There are also many other types. Interest rate swaps It is the exchange of a fixed rate loan to a floating rate loan.
The life of the swap can range from 2 years to over 15 years. The reason for this exchange is to take benefit from comparative advantage. Some companies may have comparative advantage in fixed rate markets while other companies have a comparative advantage in floating rate markets. When companies want to borrow they look for cheap borrowing i. e. from the market where they have comparative advantage. However this may lead to a company borrowing fixed when it wants floating or borrowing floating when it wants fixed. This is where a swap comes in. A swap has the effect of transforming a fixed rate loan into a floating rate loan or vice versa.
Currency swaps A currency swap involves exchanging principal and fixed rate interest payments on a loan in one currency for principal and fixed rate interest payments on an equal loan in another currency. Just like interest rate swaps, the currency swaps also are motivated by comparative advantage. Currency swaps entail swapping both principal and interest between the parties, with the cash flows in one direction being in a different currency than those in the opposite direction. Commodity swaps A commodity swap is an agreement whereby a floating (or market or spot) price is exchanged for a fixed price over a specified period.
The vast majority of commodity swaps involve crude oil. Equity Swap An equity swap is a special type of total return swap, where the underlying asset is a stock, a basket of stocks, or a stock index. Compared to actually owning the stock, in this case you do not have to pay anything up front, but you do not have any voting or other rights that stock holders do. Credit default swaps A credit default swap (CDS) is a swap contract in which the buyer of the CDS makes a series of payments to the seller and, in exchange, receives a payoff if a credit instrument – typically a bond or loan – goes into default (fails to pay).
Unlike an actual insurance contract the buyer is allowed to profit from the contract and may also cover an asset to which the buyer has no direct exposure. Trading of Commodity Derivatives Exchange trading Exchange-traded derivative contracts (ETD) are those derivatives instruments that are traded via specialized derivatives exchanges or other exchanges. A derivatives exchange is a market where individual’s trade standardized contracts that have been defined by the exchange. An exchange acts as an intermediary to all related transactions, and takes Initial margin from both sides of the trade to act as a guarantee.
The world’s largest derivatives exchanges (by number of transactions) are the Korea Exchange , Eurex , and CME Group. Some types of derivative instruments also may trade on traditional exchanges. For instance, hybrid instruments such as convertible bonds and/or convertible preferred may be listed on stock or bond exchanges. Also, warrants (or “rights”) may be listed on equity exchanges. Performance Rights, Cash xPRTs and various other instruments that essentially consist of a complex set of options bundled into a simple package are routinely listed on equity exchanges.
Like other derivatives, these publicly traded derivatives provide investors access to risk/reward and volatility characteristics that, while related to an underlying commodity, nonetheless are distinct Over the counter trading A security traded in some context other than on a formal exchange such as the NSE, BSE, etc. Over-the-counter (OTC) or off-exchange trading is to trade financial instruments such as stocks, bonds, commodities or derivatives directly between two parties. The phrase “over-the-counter” can be used to refer to stocks that trade via a dealer network as opposed to on a centralized exchange.
It is contrasted with exchange trading, which occurs via facilities constructed for the purpose of trading (i. e. , exchanges), such as futures exchanges or stock exchanges. It also refers to debt securities and other financial instruments such as derivatives, which are traded through a dealer network. In general, the reason for which a stock is traded over-the-counter is usually because the company is small, making it unable to meet exchange listing requirements. Also known as “unlisted stock”, these securities are traded by broker-dealers who negotiate irectly with one another over computer networks and by phone. Commodity markets in India Indian markets have recently thrown open a new avenue for retail investors and traders to participate: commodity derivatives. For those who want to diversify their portfolios beyond shares, bonds and real estate, commodities are the best option. However, with the setting up of three multi-commodity exchanges in the country, retail investors can now trade in commodity futures without having physical stocks!
Commodities actually offer immense potential to become a separate asset class for market-savvy investors, arbitrageurs and speculators. Retail investors, who claim to understand the equity markets, may find commodities an unfathomable market. But commodities are easy to understand as far as fundamentals of demand and supply are concerned. Retail investors should understand the risks and advantages of trading in commodities futures before taking a leap. Historically, pricing in commodities futures has been less volatile compared with equity and bonds, thus providing an efficient portfolio diversification option.
In fact, the size of the commodities markets in India is also 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. Currently, the various commodities across the country clock an annual turnover of Rs 1, 40,000 crore (Rs 1,400 billion). With the introduction of futures trading, the size of the commodities market grows many folds here on. Like any other market, the one for commodity futures plays a valuable role in information pooling and risk sharing.
The market mediates between buyers and sellers of commodities, and facilitates decisions related to storage and consumption of commodities. In the process, they make the underlying market more liquid. MCX (Multi commodity Exchange) Vision: We envision a unified Indian commodity market that is driven by market forces and continually provides a level playfield for all stakeholders ranging from the primary producer to the end-consumer; corrects historical aberrations in the system; leverages technology to achieve exceptional efficiencies and ultimately lead to a common world market.
We also envision a brand image for MCX that identifies it as the Exchange of Choice not only by direct participants in the commodity ecosystem but also by the general public. Mission: MCX shall accomplish the above vision by relentlessly endeavoring to enhance awareness and understanding of exchange-enabled trade in commodity derivatives. The Exchange will continue to minimize the adverse effects of price volatilities; providing commodity ecosystem participants with neutral, secure and transparent trade mechanisms; formulating quality parameters and trade regulations in conjunction with the regulatory authority.
Moreover, it will continue to enforce a zero-tolerance policy toward unethical trade practices-attempted or real-by any participant/s; and invest in the all-round development of the commodity ecosystem. About MCX Multi Commodity Exchange of India Ltd (MCX) is a state-of-the-art electronic commodity futures exchange. The demutualised Exchange set up by Financial Technologies (India) Ltd (FTIL) has permanent recognition from the Government of India to facilitate online trading, and clearing and settlement operations for commodity futures across the country.
Having started operations in November 2003, today, MCX holds a market share of over 80% of the Indian commodity futures market, and has more than 2000 registered members operating through over 100,000 trader work stations, across India. The Exchange has also emerged as the sixth largest and amongst the fastest growing commodity futures exchange in the world, in terms of the number of contracts traded in 2009. MCX offers more than 40 commodities across various segments such as bullion, ferrous and non-ferrous metals, and a number of agri-commodities on its platform.
The Exchange is the world’s largest exchange in Silver, the second largest in Gold, Copper and Natural Gas and the third largest in Crude Oil futures, with respect to the number of futures contracts traded. MCX has been certified to three ISO standards including ISO 9001:2000 Quality Management System standard, ISO 14001:2004 Environmental Management System standard and ISO 27001:2005 Information Security Management System standard. The Exchange’s platform enables anonymous trades, leading to efficient price discovery. Moreover, for globally-traded commodities, MCX’s platform enables domestic participants to trade in Indian currency.
The Exchange strives to be at the forefront of developments in the commodities futures industry and has forged strategic alliances with various leading International Exchanges, including London Metal Exchange (LME), New York Mercantile Exchange, Shanghai Futures Exchange (SHFE), LIFFE Administration and Management, Baltic Exchange Limited (BEL), Taiwan Futures Exchange (TAIFEX), among others. For MCX, staying connected to the grassroots is imperative. Its domestic alliances aid in improving ethical standards and providing services and facilities for overall improvement of the commodity futures market.
Key shareholders Promoted by FTIL, MCX enjoys the confidence of blue chips in the Indian and international financial sectors. MCX’s broad-based strategic equity partners include State Bank of India and its associates (SBI), National Bank for Agriculture and Rural Development (NABARD), National Stock Exchange of India Ltd (NSE), SBI Life Insurance Co Ltd, Bank of India (BOI), Bank of Baroda (BOB), Union Bank of India, Corporation Bank, Canada Bank, HDFC Bank, Fid Fund (Mauritius) Ltd. – an affiliate of Fidelity International, Merrill Lynch, Euro next N. V. and others. Technology
MCX’s ability to use and apply technology efficiently is a key factor in the development of its business. The Exchange’s technology framework is designed to provide high availability for all critical components, which guarantees continuous availability of trading facilities. The robust technology infrastructure of the Exchange, along with its with rapid customization and deployment capabilities enables it to operate efficiently with fast order routing, immediate trade execution, trade reporting, real-time risk management, market surveillance and market data dissemination.
The On-line trading system of the Exchange is accessible to its members through multiple mediums of connectivity such as VSAT, Terrestrial Leased Circuits (Point to Point and Multi Protocol Label Switching (MPLS)), Integrated Services Digital Network (ISDN) and Internet. The Computer to Computer Link (CTCL) facility of the Exchange enables members to expand their business set up, using either the Trading front-end software procured from Exchange empanelled CTCL vendors or by using Exchange approved CTCL software developed in-house.
MCX provides market information to various financial information service agencies on a real-time basis. The Exchange has interfaces with banks for settlements and collateral management. The margining methodology used by MCX is SPAN™ margining system, which is the same as the model adopted by CME. In addition to SPAN™, the Exchange system also has the ability to impose margins, which are applied over and above the margin computed by SPAN™. The system and processes of the Exchange are designed to safe guard market integrity and to enhance transparency in operations.
As a part of its Business Continuity Plan (BCP), the Exchange maintains a Disaster Recovery Site (DRS). Data is backed up from the primary site to the DRS on a real time basis using the replication technology. With its rich experience in providing integrated solutions to global financial markets and implementing mission critical transaction technologies, MCX’s technology service provider, FTIL, enables the Exchange to implement new products and services quickly and efficiently. Key Milestones March 15, 2011 MCX recorded its highest daily turnover since inception of Rs. 718. 76 billion
October 20, 2010 MCX obtains renewal of its ISO 9001:2008 certification from Bureau VERITAS Certification (India) June 7, 2010 MCX signed an MOU with Shanghai Futures Exchange December 3, 2009 MCX is the sixth largest commodity futures exchange globally in terms of the number of contracts traded on the exchange for the period January to June 2009 November 30, 2009 MCX launched “Exchange of Futures for Physicals” (EFP) transactions October 14, 2009 MCX released India’s first Yearbook on Indian Commodity Ecosystem in collaboration with PricewaterhouseCoopers July 18, 2008 Launch of the Gujarati and Hindi version of website mcxindia. om by MCX June 9, 2008 Launch of futures in CER (Certified Emission Reduction) by MCXJune 3, 2008 MCX was granted membership to the International Organization of Securities Commissions (“IOSCO”) May 23, 2007 MCX obtained ISO/IEC 27001: 2005 certification July 24, 2006 MCX signed an agreement with Euronext. LIFFE June 12, 2006 MCX teamed up with the Department of Posts, Government of India, to launch Gramin Suvidha Kendra in Jalgaon, Maharashtra, for information dissemination and query redressed on agricultural issues to farmers using the Indian postal network
June 5, 2006 MCX signed a license agreement with NYMEX December 1, 2005 MCX entered into a MOU with the University of Mumbai for creating a chair in its department of economics October 25, 2005 MCX entered into a license agreement with London Metal Exchange (“LME”) for the use of the LME’s official prices as the basis for settlement of certain futures contracts June 14, 2005 ‘Commodity Suchana Kendra’, a joint initiative between MCX, Maharashtra State Agricultural Marketing Board (“MSAMB”) and NSEAP to link up all Agriculture Produce Market Committee (“APMC”) markets, was launched t the Agriculture Produce Market Committee, Navi Mumbai June 7, 2005 Launch of composite commodity futures index (‘MCX-COMDEX’) by MCX November 29, 2004 MOU entered into between FTIL and NAFED to create a national level agricultural spot exchange December 8, 2003 Online futures trading during evening session and through Internet trading facilities was pioneered November 10, 2003 First day of trading for MCX September 26, 2003 MCX received permanent recognition from the Ministry of Consumer Affairs, Food and Public Distribution, Government of India
May 28, 2002 MCX was converted into a public limited company and our Company’s name was changed to Multi Commodity Exchange of India Limited Awards & Recognition 2011 MCX received the “Financial Inclusion Award 2011” from the SKOCH Foundation 2010 MCX received the “Best Commodity Exchange of the Year” award from the Bombay Bullion Association 2010 MCX received the FICCI Socio Economic Development Foundation (SEDF) Corporate Social Responsibility Award 2009-10 010 MCX received the NASSCOM Foundation Social Innovation Honors’ 2010 2009 MCX received the “Sankalp Award” for Agriculture and Rural Innovation 2008 MCX received the “Best Bullion Exchange of the Year” award from the Bombay Bullion Association 2008 MCX was recognized as “India’s First Green Exchange” by Priyadarshini Academy 2008 MCX was awarded the “Golden Peacock Eco-innovation award 2008” by the Institute of Directors Regulatory Body – FMC 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 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; (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. Commodity Trading in India Evolution of Futures Trading and its Present Status Organized futures market evolved in India by the setting up of “Bombay Cotton Trade Association Ltd. ” in 1875.
In 1893, following widespread discontent amongst leading cotton mill owners and merchants over the functioning of the Bombay Cotton Trade Association, a separate association by the name “Bombay Cotton Exchange Ltd. ” was constituted. Futures’ trading in oilseeds was organized in India for the first time with the setting up of Gujarati Vyapari Mandali in 1900, which carried on futures trading in groundnut, castor seed and cotton. Futures trading in Raw Jute and Jute Goods began in Calcutta with the establishment of the Calcutta Hessian Exchange Ltd. , in 1919. Later East Indian Jute Association Ltd. was set up in 1927 for organizing futures trading in Raw Jute.
These two associations amalgamated in 1945 to form the present East India Jute & Hessian Ltd. , to conduct organized trading in both Raw Jute and Jute goods. In case of wheat, futures markets were in existence at several centers at Punjab and U. P. The most notable amongst them was the Chamber of Commerce at Hapur, which was established in 1913. Other markets were located at Amritsar, Moga, Ludhiana, Jalandhar, Fazilka, Dhuri, Barnala and Bhatinda in Punjab and Muzaffarnagar, Chandausi, Meerut, Saharanpur, Hathras, Ghaziabad, Sikenderabad and Bareilly in U. P. Futures market in Bullion began at Mumbai in 1920 and later similar markets came up at Rajkot, Jaipur, Jamnagar, Kanpur, Delhi and Calcutta.
In due course several other exchanges were also created in the country to trade in such diverse commodities as pepper, turmeric, potato, sugar and gur (jaggory). In the seventies, most of the registered associations became inactive, as futures as well as forward trading in the commodities for which they were registered came to be either suspended or prohibited altogether. The Khusro Committee (June 1980) had recommended reintroduction of futures trading in most of the major commodities , including cotton, kapas, raw jute and jute goods and suggested that steps may be taken for introducing futures trading in commodities, like potatoes, onions, etc. t appropriate time. The government, accordingly initiated futures trading in Potato during the latter half of 1980 in quite a few markets in Punjab and Uttar Pradesh. After the introduction of economic reforms since June 1991 and the consequent gradual trade and industry liberalization in both the domestic and external sectors, the Govt. of India appointed in June 1993 one more committee on Forward Markets under Chairmanship of Prof. K. N. Kabra. The Committee submitted its report in September 1994. The majority report of the Committee recommended that futures trading be introduced in 1) Basmati Rice 2) Cotton and Kapas 3) Raw Jute and Jute Goods ) 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 and 9) Onions. The committee also recommended that some of the existing commodity exchanges particularly the ones in pepper and castor seed, may be upgraded to the level of international futures markets. The liberalized 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.
The National Agriculture Policy announced in July 2000 and the announcements of Hon’ble Finance Minister 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 are, however presently prohibited. 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 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 amplititude 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. 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 un remunerative 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 post-liberalization 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. Characteristics of futures trading A “Futures Contract” is a highly standardized contract with certain distinct features. Some of the important features are as under: a.
Futures’ trading is necessarily organized under the auspices of a market association so that such trading is confined to or conducted through members of the association in accordance with the procedure laid down in the Rules & Bye-laws of the association. b. It is invariably entered into for a standard variety known as the “basis variety” with permission to deliver other identified varieties known as “tenderable varieties”. c. The units of price quotation and trading are fixed in these contracts, parties to the contracts not being capable of altering these units. d. The delivery periods are specified. e. The seller in a futures market has the choice to decide whether to deliver goods against outstanding sale contracts. In case he decides to deliver oods, he can do so not only at the location of the Association through which trading is organized but also at a number of other pre-specified delivery centers. f. In futures market actual delivery of goods takes place only in a very few cases. Transactions are mostly squared up before the due date of the contract and contracts are settled by payment of differences without any physical delivery of goods taking place. Exchanges ¦Multi Commodity Exchange of India Ltd. , Mumbai ¦National Commodity & Derivatives Exchange Ltd. , Mumbai ¦National Multi Commodity Exchange of India Limited. , Ahmadabad ¦Indian Commodity Exchange Limited, New Delhi ¦Ace Derivatives and Commodity Exchange Limited, Ahmadabad ¦Bikaner Commodity Exchange Ltd. , Bikaner ¦Bombay Commodity Exchange Ltd. , Vashi Chamber Of Commerce, Hapur ¦Central India Commercial Exchange Ltd. , Gwalior ¦Cotton Association of India, Mumbai ¦East India Jute & Hessian Exchange Ltd. , Kolkata ¦First Commodities Exchange of India Ltd. , Kochi ¦Haryana Commodities Ltd. , Sirsa ¦India Pepper & Spice Trade Association. , Kochi ¦Meerut Agro Commodities Exchange Co. Ltd. , Meerut ¦National Board of Trade, Indore ¦Rajkot Commodity Exchange Ltd. , Rajkot ¦Rajdhani Oils and Oilseeds Exchange Ltd. , Delhi ¦Surendranagar Cotton oil & Oilseeds Association Ltd. , Surendranagar ¦Spices and Oilseeds Exchange Ltd. Sangli ¦Vijay Beopar Chamber Ltd. , Muzaffarnagar Company profile About IIFL
The IIFL (India Info line) group, comprising the holding company, India Info line Ltd (NSE: INDIAINFO, BSE: 532636) and its subsidiaries, is one of the leading players in the Indian financial services space. IIFL offers advice and execution platform for the entire range of financial services covering products ranging from Equities and derivatives, Commodities, Wealth management, Asset management, Insurance, Fixed deposits, Loans, Investment Banking, GoI bonds and other small savings instruments. IIFL recently received an in-principle approval for Securities Trading and Clearing memberships from Singapore Exchange (SGX) paving the way for IIFL to become the first Indian brokerage to get a membership of the SGX.
IIFL also received membership of the Colombo Stock Exchange becoming the first foreign broker to enter Sri Lanka. IIFL owns and manages the website, www. indiainfoline. com, which is one of India’s leading online destinations for personal finance, stock markets, economy and business. IIFL has been awarded the ‘Best Broker, India’ by Finance Asia and the ‘Most improved brokerage, India’ in the Asia Money polls. India Info line was also adjudged as ‘Fastest Growing Equity Broking House – Large firms’ by Dun & Bradstreet. A forerunner in the field of equity research, IIFL’s research is acknowledged by none other than Forbes as ‘Best of the Web’ and ‘…a must read for investors in Asia’.
Our research is available not just over the Internet but also on international wire services like Bloomberg, Thomson First Call and Internet Securities where it is amongst one of the most read Indian brokers. A network of over 2,500 business locations spread over more than 500 cities and towns across India facilitates the smooth acquisition and servicing of a large customer base. All our offices are connected with the corporate office in Mumbai with cutting edge networking technology. The group caters to a customer base of about a million customers, over a variety of mediums viz. online, over the phone and at our branches. Functions Equities IIFL is a member of BSE and NSE registered with NSDL and CDSL as a depository participant and provides broking services in the cash, derivatives and currency segments, online and offline.
IIFL is a dominant player in the retail as well as institutional segments of the market. It recently became the first Indian broker to get a membership of the Colombo Stock Exchange and is also the first Indian broker to have received an in-principle approval for membership of the Singapore Stock Exchange. IIFL’s Trader Terminal, its proprietary trading platform, is widely acknowledged as one of the best available for retail investors. Investors opt for IIFL given its unique combination of superior Service, cutting-edge proprietary Technology, Advice powered by world-acclaimed research and its unparalleled Reach owing to its over 2500 business locations across over 500 cities in India.
IIFL received the BQ1 broker grading (highest grading) from CRISIL. The assigned grading reflects an effective external interface, robust systems framework and strong risk management. The grading also reflects IIFL’s healthy regulatory compliance track record and adequate credit risk profile. IIFL’s analyst team won Zee Business’ ‘India’s best market analysts awards – 2009’ for being the best in the Oil and Gas and Commodities sectors and a finalist in the Banking and IT sectors. IIFL has rapidly emerged as one of the premier institutional equities houses in India with a team of over 25 research analysts, a full-fledged sales and trading team coupled with an experienced investment banking team.
The Institutional equities business conducted a very successful ‘Enterprising India’ global investors’ conference in Mumbai in March 2010, which was attended by funds with aggregate AUM over US$5 trillion and CEOs and other executives representing corporate with a combined market capitalization of over US$500 billion. The ‘Discover Sri Lanka’ global investors’ conference, held in Colombo in July 2010, was attended by more than 50 leading global and major local investors and 25 Sri Lankan corporate, along with senior Government officials. Commodities IIFL offers commodities trading to its customers vide its membership of the MCX and the NCDEX. Our domain knowledge and data based on in depth research of complex paradigms of commodity kinetics, offers our customers a unique insight into behavioral patterns of these markets. Our customers are ideally positioned to make informed investment decisions with a high probability of success.
Credit and finance IIFL offers a wide array of secured loan products. Currently, secured loans (mortgage loans, margin funding, and loans against shares) comprise 94% of the loan book. The Company has discontinued its unsecured products. It has robust credit processes and collections mechanism resulting in overall NPAs of less than 1%. The Company has deployed proprietary loan-processing software to enable stringent credit checks while ensuring fast application processing. Recently the company has also launched Loans against Gold. Insurance IIFL entered the insurance distribution business in 2000 as ICICI Prudential Life Insurance Co. Ltd’s corporate agent.
Later, it became an Insurance broker in October 2008 in line with its strategy to have an ‘open architecture’ model. The Company now distributes products of major insurance companies through its subsidiary India Info line Insurance Brokers Ltd. Customers can choose from a wide bouquet of products from several insurance companies including Max New York Life Insurance, MetLife, Reliance Life Insurance, Bajaj Allianz Life, Birla Sun life, Life Insurance Corporation, Kotak Life Insurance and others. Wealth Management Service IIFL offers private wealth advisory services to high-net-worth individuals (HNI) and corporate clients under the ‘IIFL Private Wealth’ brand.
IIFL Private Wealth is managed by a qualified team of MBAs from IIMs and premier institutes with relevant industry experience. The team advises clients across asset classes like sovereign and quasi-sovereign debt, corporate and collateralized debt, direct equity, ETFs and mutual funds, third party PMS, derivative strategies, real estate and private equity. It has developed innovative products structured on the fixed income side. It also has tied up with Interactive Brokers LLC to strengthen its execution platform and provide investors with a global investment platform. Investment Banking IIFL’s investment banking division was launched in 2006.
The business leverages upon its strength of research and placement capabilities of the institutional and retail sales teams. Our experienced investment banking team possesses the skill-set to manage all kinds of investment banking transactions. Our close interaction with investors as well as corporate helps us understands and offer tailor-made solutions to fulfill requirements. The Company possesses strong placement capabilities across institutional, HNI and retail investors. This makes it possible for the team to place large issues with marquee investors. In FY10, the team advised and managed more than 10 transactions including four IPOs and four Qualified Institutions Placements