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FAQ

What are commodity exchanges?  

Commodity exchanges are institutions, which provide a platform for trading in ‘commodity futures' just as how stock markets provide space for trading in equities and their derivatives. They thus play a critical role in robust price discovery where several buyers and sellers interact and determine the most efficient price for the product. Indian commodity exchanges offer trading in ‘commodity futures' in a number of commodities. Presently, the regulator, Forward Markets Commission allows futures trading in over 55 commodities. There are 3 national level and 18 regional level commodity exchanges in India .

Trading Commodity Futures. A Timeline -------

1875        Bombay Cotton Trade Association Established

1900        Future Trade in Oil Seeds Started

1920        Gold and Silver Futures Trading started in Bombay

1939        Cotton Derivatives banned by Government

1952        FCRA passed, ban on cotton futures removed

1953        Forward Market Commission Established

1955        Gold and Silver futures trading banned by Government

1980        Govt. removed ban on selected commodities like cotton, Jute, potatoes etc.

1994        Kabra Committee recommended removal of ban on futures trading for most commodities

2001        Govt. extended the list of commodities allowed for futures trading.

2003        NCDEX&MCX established.

What are the benefits in futures trading in commodities in Exchanges?

·           Base Value can never be Zero (or negative) i.e Low risk as compared to Equitites.

·           Provides the best opportunity mainly Gold and Silver to hedge against Inflation and Calamities.

·           Futures trading in commodities results in transparent and fair price discovery on account of large scale participations of entities associated with different value chains and reflects views and expectations of wider section of people related to that commodities.

·           This also provides effective platform for price risk management for all segments of players ranging from the producers, the traders, processors, exporters/importers and the end users of the commodity.

·           Commodity as a portfolio diversifier: Commodity as an asset class possesses low correlation with equity and debt markets which makes it attractive as a portfolio diversifier. Also, long term volatility witnessed in commodity markets is lower than those witnessed in equity markets.

What are the unique features of national level commodity exchanges?

The unique features of national level commodity exchanges are:

·           They are demutualized, meaning thereby that they are run professionally and there is separation of management from ownership. The independent management does not have any trading interest in the commodities dealt with on the exchange.

·           They provide online platforms or screen based trading as distinct from the open outcry systems (ring trading) seen on conventional exchanges. This ensures transparency in operations as everyone has access to the same information.

·           They allow trading in a number of commodities and are hence multi-commodity exchanges.

·           They are national level exchanges which facilitate trading from anywhere in the country. This a corollary of being an online exchange.

Which are the major regional commodity exchanges in India ?

·           BATINDA COMMODITY & OIL EXCHANGE LTD.

·           THE BOMBAY COMMODITY EXCHANGE

·           THE RAJKOT SEEDS OIL AND BULLION MERCHAT

·           THE KANPUR COMMODITY EXCHANGE

·           THE MEERUT AGRO COMMODITY EXCHANGE THE SPICES AND OILSEEDS EXCHANGE (SANGI)

·           AHEMDABAD COMMODITY EXCHANGE

·           VIJAY BEOPAR CHAMBER LTD. (MUZAFFARNAGAR)

·           INDIA PEPPERS AND SPICE TRADE ASSOCIATION ( KOCHI )

·           RAJDHANI OILS AND SEEDS EXCHANGE ( DELHI )

·           THE CHAMBER OF COMMERCE (HAPUR)

·           THE EAST INDIA COTTON ASSOCIATION (MUMBAI)

·           THE CENTRAL COMMERCIAL EXCHANGE ( GWALIOR )

·           THE EAST INDIA JUTE & HESSIAN EXCHANGE OF INDIA (KOLKATA)

·           FIRST COMMODITY EXCHANGE OF INDIA ( KOCHI )

·           BIKANER COMMODITY EXCHANGE LTD. ( BIKANER )

·           THE COFEE FUTURE EXCHANGE LTD. ( BANGALORE )

·           E SUGAR INDIA LTD. (MUMBAI)

Which are the most prominent commodity exchanges across the world?

1.         Chicago Board of Trade (CBOT )

2.         Chicago Mercantile Exchange (CME)

3.         New York Board of Trade (NYBOT)

4.         New York Mercantile Exchange (NYMEX)

5.         London Metal Exchange (LME)

6.         London International Financial Futures Options Exchange (LIFFE)

7.         The Tokyo Commodity Exchange (TOCOM)

8.         Kuala Lumpur Commodity Exchange (KLCE)

9.         Bursa Malaysia Derivatives Exchange.

Who are the likely participants in the market?

Primarily there are three classes of participants viz., Hedgers, Speculators andArbitrageurs.

HEDGER: Hedging is buying and selling futures contracts to offset the risks of changing underlying market prices. Thus, it helps in reducing the risk associated with exposures in underlying market by taking a counter- positions in the futures market. For example, the hedgers who either have security or plan to have a commodity is concerned about the movement in the price of the underlying before they buy or sell the commodity . Typically, he would take a short position in the Futures markets, as the cash and futures price tend to move in the same direction as they both react to the same supply/demand factors.

SPECULATOR: A person who trades commodities, with a higher-than-average risk, in return for a higher-than-average profit potential. Speculators take large risks, especially with respect to anticipating movements, in the hopes of making quick, large gains.

ARBITRAGEUR: Since the cash and futures price tend to move in the same direction as they both react to the same supply/demand factors, the difference between the underlying price and futures price is called as basis. Basis is more stable and predictable than the movement of the prices of the underlying or the Futures price. Thus, arbitrageur would predict the basis and accordingly take positions in the cash and future markets.

Hedgers

·           Producers – farmers

·           Consumers – refineries, food processing companies

Speculators

·           Brokerage houses

·           Retail investors

·           People involved in commodity spot trading

Arbitrageurs

·           Brokerage houses

·           People trading in commodity spot markets

·           Warehousing companies

What are spot and futures prices?

Spot price is the price in the cash market (where one buys and sells goods ‘on the spot' just as we make purchases from a shop by paying cash) while future prices are prices of the same commodity at a future date. Therefore, if the spot price of gold is Rs 6000/10 gms today, the 1-month future price would be Rs 6050, while the 2-month future price would be Rs 6100. The difference between spot and futures prices is the cost of carry i.e. interest cost, storing, insurance etc. Normally futures prices are higher than spot prices. The exception is when the futures prices are lower than the spot price, which is called ‘backwardation'. This situation is more common in case of agricultural commodities where due to the arrival of crop on certain future dates, the future prices would be lower than the current spot price.

How do I begin? Please Explain in brief.

To begin trading in commodity futures you must:

·           Select a broker: A trustworthy, reliable, efficient, effective, innovative broker, having membership of both the exchanges (MCX and NCDEX) would be in your interest.

·           Information about self: Having selected us as your broker, you will be asked to provide information that is personal and financial. A member client agreement would be signed between the broker and yourself.

·           Depositing the margin: In order to trade futures contracts, you have to deposit margins in cash with us. There are two types of margins namely, initial margin and mark to market margin  

1.                       Initial margin: Initial margin is set by the exchange on basis of volatility in the particular commodity and is a percentage of the contract.

2.                       Mark to market margin: At the end of the day, the contract is marked to market, meaning your account is credited or debited based on the profit / loss made during the session.

·           Resarch: Its important that the client has access to necessary information for trading in commodities. Futures are time-based products and not long term investments. Hence, they are sensitive to day to day happenings in the global markets. It is required that you are well informed about the developments in specific commodities across the world and also in India.

Explain in detail about the National Commodity and Derivatives Exchange (NCDEX) and Multi Commodity Exchange (MCX)?

The following points explain you at length about NCDEX&MCX.

·           NCDEX is a public limited company incorporated on April 23, 2003 under the Companies Act, 1956. It obtained its Certificate for Commencement of Business on May 9, 2003. It has commenced its operations on December 15, 2003.

·           NCDEX is a nation-level, technology driven de-mutualized on-line commodity exchange with an independent Board of Directors and professionals not having any vested interest in commodity markets. It is committed to provide a world-class commodity exchange platform for market participants to trade in a wide spectrum of commodity derivatives driven by best global practices, professionalism and transparency.

·           NCDEX is regulated by Forward Market Commission in respect of futures trading in commodities. Besides, NCDEX is subjected to various laws of the land like the Companies Act, Stamp Act, Contracts Act, Forward Commission (Regulation) Act and various other legislations, which impinge on its working.

·           NCDEX is located in Mumbai and offers facilities to its members in more than 550 centres throughout India . The reach will gradually be expanded to more centres.

·           Online Screen based Future Trading in about 45 Commodities presently.

·           More than 100 commodities proposed in near future.

·           Daily average turnover of more than Rs. 4, 000 Crores.

·           Daily average turnover expected to be more than Rs.16, 000 Crores in a years time and more than Rs. 25,000-30,000 Crores in 4-5 years.

·           Excellent hedging tools against price risk.

·           All trades backed by Trade Guarantee Fund of respective commodity exchanges thus almost no risk of default.

·           Worldwide largest consumer of traditional form of investment.

·           Low margins on trade as compared to equity market.

·           Online spot trading, future trading in option and commodity indices are also to be introduced in near future.

·           Delivery in Demat Form.

About MCX

MCX an independent and de-mutulised multi commodity exchange has permanent recognition from Government of India for facilitating online trading, clearing and settlement operations for commodity futures markets across the country. Key shareholders of MCX are Financial Technologies ( India ) Ltd., State Bank of India, HDFC Bank, State Bank of Indore, State Bank of Hyderabad, State Bank of Saurashtra, SBI Life Insurance Co. Ltd., Union Bank of India , Bank of

India , Bank Of Baroda, Canara Bank, Corporation Bank.

Headquartered in Mumbai, MCX is led by an expert management team with deep domain knowledge of the commodity futures markets. Through the integration of dedicated resources, robust technology and scalable infrastructure, since inception MCX has recorded many first to its credit.

Inaugurated in November 2003 by Shri Mukesh Ambani, Chairman & Managing Director, Reliance Industries Ltd, MCX offers futures trading in the following commodity categories: Agri Commodities, Bullion, Metals- Ferrous & Non-ferrous, Pulses, Oils & Oilseeds, Energy, Plantations, Spices and other soft commodities .  

What are the margin requirements?

INITIAL MARGIN

Initial margin based on “Value at Risk” Model (VaR) to estimate worst loss that can happen for a time horizon 99% confidence level SPAN® is the system used for margin calculation. Volatility is one of the inputs to the SPAN calculationsEWMA/ J.P.Morgan Risk Metrics methodology for calculation of volatility will be adopted. Similar procedure is followed in most international exchanges like CBOT, CME, NYMEX, NYBOT, TOCOM, LME, LIFFE

Minimum Initial Margin for each commodity traded by the Client.

Mark- to- market Margin

All open positions will be marked-to-market at the daily settlement price at the end of the day Client has to bring mark-to-market (MTM) margin to be through funds transfer the next day.  

What are the types of Settlement?

This is diagrammatically explained below:

1

Explain the settlements mechanism in the commodity markets?

2

Explain the Settlement Scenarios?

The following flowchart explains the probable scenarios.

3

How do I calculate memberwise and clientwise open positons?

Have a look at the table:

 

Member A

Member B

 

Client 1

Client 2

Client 3

Contract X

Contract Y

Contract X

Contract Y

Day 1

400 S

700 B

400 S

200 B

500 S

Day 2

-

400 S

400 B

200 B

 

Date of Expiry

400 S

300 B

-

400 B

500 S

OPEN POSITION

Contract X 400 S
Contract Y 400 B

Contract Y =500 S- 400 B =100 S

Explain the Delivery Process.

Procedures for Delivery :

– Open a Beneficiary Demat account

Information required for Delivery :

– Commodity code

– Quantity

– Location/branch preference for physical receipt/delivery of commodities

– Demat IndicatorDelivery process requires

Delivery process requires:

– Delivery information submitted on Expiry date.

– This is done through the delivery request window on the Trading Terminal.

– Matching delivery information is obtained.

Validation of delivery information:

– On Client’s Net Open Position

– On Delivery lot for commodity

– Excess quantity rejected and cash settled.

– Matched delivery information.

Matching parameters:

– Commodity

– Quantity

– Location

– Branch

– Matching limited to the total warehouse capacity

– Settlement through Depository.

– Settlement Schedule in Settlement Calendar.

Explain the settlement pay-in and pay-out mechanism.

Pay-in

• Commodities

– Seller ensures Demat of commodities prior to Pay-in

– Instruction to DP by seller to move commodities to Clearing Member Pool Account

– Pay-in of commodities on Settlement Date thru Clearing member pool account

• Funds

– Pay-in of funds – Thru the Clearing bank of the Member on the Pay-in day.

Pay-out

• Commodities

– Credit given into the Buyer member CM Pool A/c

– Instruction by Member to transfer from CM pool to buyer client’s Demat account

– Subsequent Remat of commodities and physical movement handled by buyer

• Funds

– Funds pay-out is done into the designated bank account of the Member with the Clearing bank.

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