COMMODITY FUTURES
TRADING IN INDIA
C.K.G.
Nair *
The institution
of formal commodity futures market in India is almost as old as
in the USA and UK. The Indian experience, however, is much older
as references to such markets in India appear in Kautialya’s Arthasastra.
The first organized futures market was established in 1875 under
the aegis of the Bombay Cotton Trade Association to trade in cotton
contracts which was followed by oilseeds and foodgrains. Before
the Second World War, a large number of commodity exchanges trading
futures contracts in several commodities like cotton, groundnut,
groundnut oil, raw jute, jute goods, castor seed, wheat, rice,
sugar, precious metals like gold and silver were flourishing throughout
the country. During the Second World War futures trading was prohibited.
After Independence, especially in the second half of the 1950s
and first half of 1960s, commodity futures trading again picked
up. However, due to shortage during the early and mid-sixties
futures trading in most of the commodities was prohibited.
The Forward Contract
(Regulation) Act, 1952, a Central Act, governs commodity derivatives
trading in India. The Act defines various forms of contract.
Ready delivery
contracts are contracts for supply of goods and payment thereof
where both the delivery and payment is completed within 11 days
from the date of the contract. Such contracts are outside the
purview of the Act.
Forward contracts
are contracts for supply of goods and payment where supply of
goods or payment or both take place after 11 days from the date
of contract or where delivery of goods is totally dispensed with.
The forward contracts
are categorised as specific delivery contracts and other than
specific delivery contracts. The specific delivery contracts are
those where delivery of goods is mandatory though the delivery
takes place after a period longer than 11 days. Specific delivery
contracts are essentially merchandising contracts entered into
by the parties for actual transactions in the commodity and the
terms of contract may be drawn to meet specific needs of parties
as against standardised terms in futures contracts.
The specific
delivery contracts are again of two sub types, namely, the transferable
variety where rights and obligations under the contracts are capable
of being transferred and the non-transferable variety where rights
and obligations are not transferable.
Forward contracts
other than specific delivery contracts are what are generally
known as ‘futures contracts’ though the Act does not specifically
define the futures contracts. Futures contracts are standardized
contracts where the quantity, quality, date of maturity and place
of delivery are all standardized and the parties to the contract
only decide on the price and the number of units to be traded.
Futures contracts are entered into through the Commodity Exchanges
and are regulated by the provisions of the FC(R) Act. Options
in goods means an agreement for the purchase or sale of a right
to buy or sell, or a right to buy and sell goods in future and
includes a put, a call, or a put and call in goods. Options in
goods are currently prohibited under the Act. An Option Contract
is the right (but not the obligation) to purchase or sell a certain
commodity at a pre-arranged price (the "strike price")
on or before a specified date. For this contract, the buyer or
seller of the option has to pay a price to his counterpart at
the time of contracting. It is called the premium. If the option
is not used, the premium is the maximum cost involved.
There are two
broad categories of operators in the futures markets, namely,
hedgers and speculators. Hedgers are those who have an underlying
interest in the specific delivery or ready delivery contracts
and are using futures market to insure themselves against adverse
price fluctuations. The examples could be stockist, exporters
and producers. They require some people who are prepared to accept
the counter party position. Speculators are those who may not
have an interest in the ready contracts, etc. but see an opportunity
of price movement favorable to them. They are prepared to assume
the risk which the hedgers are trying to cover in the futures
market. They provide depth and liquidity to the market.
Regulation
Since futures
trading has the risk of being misused by unscrupulous elements,
various regulatory measures are prescribed by the Forward Markets
Commission. It prevents an individual operator from over-trading
limit on price fluctuation to prevent an abrupt upswing or downswing
in prices, special margin deposits to be collected on outstanding
purchases or sales to curb excessive speculative activity through
financial restraints. Minimum and maximum prices prescribed to
prevent futures prices from falling below the levels that are
unremunerative and from rising above the levels not warranted
by genuine supply and demand factors. During times of shortages
the Commission even takes 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.
Considering the
importance of agriculture in India’s GDP and the genuine requirements
of promoting sound commodity futures markets in the country, a
number of major reforms have been undertaken since the early 1990s.
These include
setting up of a separate Department of Consumer Affiars (1995)
which has been in the forefront for major initiatives in invigorating
commodity futures trading. Major efforts at reforming and strengthening
the Commodity Exchanges (1996) such as broadbasing the Board,
computerization, professionalisation and online trading are at
different stages of implementation in various exchanges. The introduction
of futures trading in edible oils, oilseeds and their cakes (1998)
was a major landmark in the development of commodity futures contracts
in India. Exchanges started trading in some of these oils and
cakes in 2000. Introduction of a major reform package for FMC
and the Exchanges by means of a World Bank-funded IDF Grant (1998)
removing prohibition on all minor oilseed, oil and cake.
National Multi-Commodity
Exchanges are being promoted. Two exchanges-Online Commodity Exchange
of India Ltd., Ahmedabad and National Board of Trade, Indore-
have since started working.
Evidently, the
Government has taken a number of major reform initiatives for
implementation. It is expected that the rest of the package will
be in place in the next couple of years. Further, a number of
measures have been taken in the real commodity sector for removing
hindrances to free the movement of goods, rationalising tax structure,
enhancing warehousing facilities and developing markets.
Together, these
reforms put in place the essential ingredients for the development
of the commodity markets and futures transactions on modern lines.
However, because of various lags between policies, implementation
and fruition the full impact of these reforms is still not visible
but should be clear in the next one to two years which will result
in substantial changes in the area.
*
Director, Department of Consumer Affairs
