Education Series I

Education Series II

Education Series III

Education Series I

India has long history of commodity futures trading, extending over 125 years. Still, such I trading was interrupted suddenly since the mid-seventies in the fond hope of ushering in an elusive socialistic pattern of society. As the country embarked on economic liberalization policies and signed the GATT agreement in the early nineties, the government realized the need forfutures trading to strengthen the competitiveness of Indian agriculture and the commodity trade and industry. Futures trading began to be permitted in several commodities, and the ushering in of the 21 century saw the emergence of new National Commodity Exchanges with countrywide reach for trading in almost all primary commodities and their products.

A commodity futures contract is essentially a financial instrument. Following the absence of futures trading in commodities for nearly four decades, the new generation of commodity producers, processors, market functionaries, financial organizations, broking agencies and investors at large are, unfortunately, unaware at present of the economic utility, the operational techniques and the financial advantages of such trading. The Multi Commodity Exchange of India (MCX) the premier New Order Exchange in the country is, therefore, launching this Commodity Futures Education Series to provide valuable insights into the rationale for such trading, and the trading practices and regulatory procedures prevailing at the Exchange.

For easy understanding and simplification of various issues and nuances involved in commodity futures trading, a convenient question-answer approach is adopted.

PHYSICAL AND FUTURES COMMODITY MARKETS

Q. What kind of statutory framework for regulating commodity futures exists in India?

A. Commodity futures contracts and the commodity exchanges organizing trading in such contracts are regulated by the Government of India under the Forward Contracts (Regulation) Act, 1952 (FCRA or the Act), and the Rules framed thereunder. The nodal agency for such regulation is the Forward Markets Commission (FMC), situated at Mumbai, which functions under the aegis of the Ministry of Consumer Affairs, Food & Public Distribution of the Central Government.

Q. What is "Commodity"?

A. Commodity includes all kinds of goods. FCRA defines "goods" as "every kind of movable property other than actionable claims, money and securities". Futures' trading is organized in such goods or commodities as are permitted by the Central Government. At present, all goods and products of agricultural (including plantation), mineral and fossil origin are allowed for futures trading under the auspices of the commodity exchanges recognized under the FCRA. The national commodity exchanges have been recognized by the Central Government for organizing trading in all permissible commodities which include precious (gold & silver) and non-ferrous metals; cereals and pulses; ginned and un-ginned cotton; oilseeds, oils and oilcakes; raw jute and jute goods; sugar and gur; potatoes and onions; coffee and tea; rubberand spices, etc.

Q. What is "Commodity Exchange"?

A. A commodity exchange is an association, or a company or any other body corporate organizing futures trading in commodities.

Q. What is the meaning of "Futures Contract"?

A. A futures contract is a type of "forward contract". FCRA defines forward contract as "a contract forthe delivery of goods and which is not a ready delivery contract". Underthe Act, a ready delivery contract is one, which provides for the delivery of goods and the payment of price therefor, either immediately or within such period not exceeding 11 days after the date of the contract, subject to such conditions as may be prescribed by the Central Government. A ready delivery contract is required by law to be fulfilled by giving and taking the physical delivery of goods. In market parlance, the ready delivery contracts are commonly known as "spot" or "cash" contracts.

All contracts in commodities providing for delivery of goods and/or payment of price after 11 days from the date of the contract are "forward" contracts. Forward contracts are of two types - "Specific Delivery Contracts" and "Futures Contracts". Specific delivery contracts provide for the actual delivery of specific quantities and types of goods during a specified future period, and in which the names of both the buyer and the seller are mentioned.

The term 'Futures contract' is nowhere defined in the FCRA. But the Act implies that it is a forward contract, which is not a specific delivery contract. However, being a forward contract, it is necessarily "a contract for the delivery of goods". A futures contract in which delivery is not intended is ab initio void (i.e., not enforceable by law), and is, therefore, not permitted for trading at any commodity exchange.

Q. What are the salient features of a "Commodity Futures Contract"?

A. A commodity futures contract is a tradable standardized contract, the terms of which are set in advance by the commodity exchange organizing trading in it. The futures contract is for a specified variety of a commodity, known as the "basis", though quite a few other similar varieties, both inferior and superior, are allowed to be deliverable or tenderable for delivery against the specified futures contract.

The quality parameters of the "basis" and the permissible tenderable varieties; the delivery months and schedules; the places of delivery; the "on" and "off" allowances forthe quality differences and the transport costs; the tradable lots; the modes of price quotes; the procedures for regular periodical (mostly daily) clearings; the payment of prescribed clearing and margin monies; the transaction, clearing and otherfees; the arbitration, survey and other dispute redressing methods; the manner of settlement of outstanding transactions after the last trading day, the penalties for non-issuance or non-acceptance of deliveries, etc., are all predetermined by the rules and regulations of the commodity exchange.

Consequently, the parties to the contract are required to negotiate only the quantity to be bought and sold, and the price. Everything else is prescribed by the Exchange. Because of the standardized nature of the futures contract, it can be traded with ease at a moment's notice.

Q. What are the main differences between the physical and futures markets?

A. The physical markets for commodities deal in either cash or spot contract for ready delivery and payment within 11 days, or forward (not futures) contracts for delivery of goods and/or payment of price after 11 days. These contracts are essentially party to party contracts, and are fulfilled by the seller giving delivery of goods of a specified variety of a commodity as agreed to between the parties. Rarely are these contracts forthe actual or physical delivery allowed to be settled otherwise than by issuing or giving deliveries. Such situations may arise when unforeseen and uncontrolled circumstances prevent the buyers and sellers from receiving or taking deliveries. The contracts may then be settled mutually.

Unlike the physical markets, futures markets trade in futures contracts which are primarily used for risk management (hedging) on commodity stocks or forward (physical market) purchases and sales. Futures contracts are mostly offset before their maturity and, therefore, scarcely end in deliveries. Speculators also use these futures contracts to benefit from changes in prices and are hardly interested in either taking or receiving deliveries of goods.

Q. What is price risk management? How does a commodity futures market perform this economic function?

A. The two major economic functions of a commodity futures market are price risk management and price discovery. Among these, the price risk management is by far the most important, and is the raison d'etre of a commodity futures market.
The need for price risk management, through what is commonly called "hedging", arises from price risks in most commodities. The larger, the more frequent and the more unforeseen is the price variability in a commodity, the greater is the price risk in it. Whereas insurance companies offer suitable policies to cover the risks of physical commodity losses due to fire, pilferage, transport mishaps, etc., they do not cover similarly the risks of value losses resulting from adverse price variations. The reason forthis is obvious. The value losses emerging from price risks are much larger and the probability of the recurrence is far more frequent than the physical losses in both the quantity and quality of goods caused by accidental fires and mishaps, or occasional thefts.

Commodity producers, merchants, stockists and importers face the risks of large value losses on their production, purchases, stocks and imports from the fall in prices. Likewise, the processors, manufacturers, exporters and other market functionaries, entering into forward sale commitments in either the domestic or export markets, are exposed to heavy risks from adverse price changes.

True, price variability may also lead to windfalls, when prices move favorably. In the long run, such gains may even offset the losses from adverse price movements. But the losses, when incurred, are, at times, so huge that these may often cause insolvencies. The greater the exposure to commodity price risks, the greater is the share of the commodity in the total earnings or production costs. Hence, the need for price risk management or hedging through the use of futures contracts.

Hedging involves buying or selling of a standardized futures contract against the corresponding sale or purchase respectively of the equivalent physical commodity. The benefits of hedging flow from the relationship between the prices of contracts (either ready or forward) for physical delivery and those of futures contracts. So long as these two sets of prices move in close unison and display a parallel (or closely parallel) relationship, losses in the physical market are offset, eitherfully or substantially, by the gains in the futures market. Hedging thus performs the economic function of helping to reduce significantly, if not eliminate altogether, the losses emanating from the price risks in commodities.

Watch out for Part - II :

• Price Discovery & Price Risk Management
• Role of Commodity Exchange

Education Series II

Q. How does a Commodity Futures Exchange help in Price Discovery & Price Risk Management?

A. Unlike the physical market, a futures market facilitates offsetting the trades without exchanging physical goods until the expiry of a contract. As a result, futures market attracts hedgers for risk management, and encourages considerable external competition from those who possess market information and price judgment to trade as traders in these commodities. While hedgers have long-term perspective of the market, the traders or arbitragers, prefer an immediate view of the market. However, all these users participate in buying and selling of commodities based on various domestic and global parameters such as price, demand and supply, climatic and market related information. These factors, together, result in efficient price discovery, allowing large number of buyers and sellers to trade on the exchange. MCX is communicating these prices all across the globe to make the market more efficient and to enhance the utility of this price discovery function.

Price Risk Management: Hedging is the practice of off-setting the price risk inherent in any cash market position by taking an equal but opposite position in the futures market. This technique is very useful in case of any long-term requirements for which the prices have to be firmed to quote a sale price but to avoid buying the physical commodity immediately to prevent blocking of funds and incurring large holding costs.

Q. Who uses Futures market and how MCX members serve their needs?

A. The Futures market participants comprises of farmers, traders, producers, processors, exporters, importers and industries associated with commodities. The futures market is used for hedging the price risk and for trading or arbitrage. Brokers of MCX, who are located all across the country, serve the futures market users directly through their own branch offices' network or through the network of their franchisees or sub-brokers.

Q. How does one trade on MCX?

A. Only exchange members and their authorized users are entitled to trade on MCX. Those who are not members of MCX can trade through MCX members or their authorized users.

Q. How does one Clear the Trades on MCX?

A. All trades on MCX are supported by an initial margin. At the End-of-day MCX does mark-to-market of all the open positions. This activity results into final position of all members in respect to booked losses or losses on open positions. Members make the shortfalls good by way of pay-insto MCX by next day and the members in profit on such positions are given the necessary credits. These payments are processed electronically through a country-wide network of clearing banks, like-Bank of India, HDFC Bank, IndusInd Bank, Union Bank of India and UTI Bankwherein members maintain theiraccounts.

Q. How settlement happens at the end of the contract? Is delivery compulsory?

A. A contract has a life cycle of one month or longer. At MCX, two weeks before the expiry of a contract, the contract enters into a tender period. At the start of the tender period, both the parties must state their intentions to give or receive delivery, based on which the parties are supposed to act or bear the penal charges for any failure in doing so. Those who do not express their intention to give or receive delivery at the beginning of tender period are required to square-up their open positions before the expiry of the contract. In case they do not their positions are closed out at 'due date rate'. The links to the physical market through the delivery process ensures maintenance of uniformity between spot and futures prices.

Q. How does a seller at MCX tender delivery to a buyer?

A. Sellers at MCX intimate the exchange at the beginning of the tender period and get the delivery quality certified from empanelled quality certification agencies. They also submit the documents to the Exchange with the details of the warehouse within the city, chosen as a delivery center. Sellers are free to use any warehouse, as they are responsibleforthe goods until the buyer picks up the delivery, which is a practice followed in the commodities market globally. Seller would receive the money from the exchange against the goods delivered, which happens when the buyer has confirmed its satisfaction over quality and picked up the deliveries within stipulated time.

MCX has tied up with State Level Warehousing Corporations of Kerala, Gujarat, Tamil Nadu and Uttar Pradesh and is in the process of finalizing the arrangements with CWCand other State level Warehousing Corporations.

Q. How does a buyer at MCX receives delivery?

A. Buyers intending to take delivery will receive it, if there are sellers willing to give delivery. The Buyer will have to make the payment within three days after the delivery is allotted. The buyer will take actual delivery from the warehouse at the designated delivery centers on the designated delivery days. There are commission agents who help the brokers with handling of the delivery, logistic support, associated quality certification through empanelled agencies and associated billings due to tax implications. This support is required as the buyer may be in a different city than the place where the delivery is being received.

Q. What does a client of a buyer do with the physical delivery in the warehouse?

A. The client of a buyer may use this delivery for his consumption in the industry, or for exports, or he may sell in the spot market or may sell in futures market in the subsequent contract, if he is a regulartrader. Generally the commodities available in the physical form are consumed by the industry and, rarely, commodities, are stored in the warehouse for a longer period.

Q. What is the percentage of delivery in the futures market?

A. The percentage is fairly low. Generally, the futures markets all over the world are used for hedging where actual delivery percentage is about 1%. Any user in the commodities ecosystem unlike the physical spot or forward market does not use these markets for regular consumption.

Q. Is it possible to officially operate a futures market under FC(R)A, 1952 on cash settlement basis as seen in the Futures Market in Securities? What is the position at MCX?

A. No, the FC(R) Act, 1952 does not permit any exchange to create a market where settlement of contract happens only on cash basis, without giving the seller an option to tender deliveries. MCX permits the sellers to tender delivery if they chose to. This has to be followed by any commodity exchange recognized under FC(R) Act.

Q. How is the quality of a commodity given by a seller ensured?

A. MCX has specified the deliverable grades in the contract specifications, which are notified before commencement of trading in a contract. The seller is required to submit the quality certification issued by MCX's empanelled quality certification agencies, like, SGS, Geo Chem, Dr. Amins, among others.

Q. What is the role of a Warehouse in Futures Market?

A. In India, vibrant spot markets, in various commodities, exists for 100s of years. In these markets, there are farmers, industrialists, warehouses, consumers, dealers and traders, who buy and sell commodities. There are warehouses, which stores commodities and there are consumers, who consume them eventually. MCX or, for that matter, any other Futures Exchange do not aim to replace, replicate or substitute such spot markets, rather the only value added service of MCX is to support the spot market players by developing their price risk efficiency through providing hedging tools. Therefore, a Futures Exchange has to base its delivery process on the basis of existing physical market practices and use existing warehouse infrastructure, which is capable of handling billion dollars worth of physical market trades. So the same infrastructure can properly take care of minuscule delivery tendered in a futures market.

Q. When is the role of a Warehouse most necessary?

A. The role of a warehouse is most necessary in the spot market where a farmer after having harvested his crop sells them to commission agents who in turn sells them to a Mandi. The Traders in Mandi may then sell it to a large consumer or to a trader who in turn will sell it to some other consumer, industry, exporter or miller at the right time and right price. The Goods during this period are stored in the warehouse. It is seen that today 80% of the warehousing capacity is used by the Government for storing various commodities under the Public Distribution System and for storing fertilizers.

Q What is a Demat Electronic Warehouse receipt?

A. Demat Electronic Warehouse Receipts are expected to be electronic records created by an approved agency after dematerialisation of the physical receipt issued by a Warehouse. In securities market the physical shares of the company are dematerialized by their Registrar and Transfer Agents using a Depository empowered under the Depositories Act. Also, the total shares of a company are monitored by the Registrar of Companies and the Stock Exchanges. In commodities market, there is no standardization of monitoring of warehouse receipts issued by a warehouse by any regulatory body. Similarly, the transfer of ownership also gets affected under a mutual agreement and not as per any Statutory Act. It remains to be seen whether such transfer will be considered good transfer under Negotiable Instruments Act and whether electronic records will be good title considering the above shortcomings. And also the fact that commodity is perishable and may not be a good delivery if the buyer finds out that it has deteriorated beyond the specifications mentioned in the contract.

Q. Are Demat electronic warehouse receipts necessary for futures trading like the demat shares in the securities market?

A. No. As 99% of the trading does not result in delivery, demat electronic warehouse receipts are not mandatory. Further, in futures market, since this 1 % delivery also happens only once in a month or perhaps once in two months, it may not be economically viable to create such an elaborate system forfutures market only.
In the securities market also, demat deliveries were useful only in the spot segment where the delivery percentage is 15-20% and it occurs on a daily basis across the country. Further, the demated shares in securities market are perpetual in nature and, therefore are rarely required to be used in the physical form. Whereas, in the commodities market such an elaborate system is pointless initially as commodities traded on the futures markets are consumed regularly and are rarely available in abundance for extended storage.

As far as commodities are concerned, there is no law, which regulates dematerialisation of warehouse receipts. Availability of a commodity at any point of time is a direct derivative of total production, carried forward stocks, imports and consumption. Equity shares are off the market if the issuing company buys them back. Commodities, on the other hand, are extinguished due to consumption, the perishable nature and exports.

Currently, 80% of the warehousing in India is used primarily for wheat, rice and fertilizers, among others. The import of commodities is spaced out at regular intervals to reduce storage cost and commodities produced seasonally are used completely, by the next season Therefore, it may not be a feasible business proposition to recommend market participants to use electronic warehouse receipts without first providing fora legal secured framework, which guarantees the quantity, quality, title and ownership of the commodities held by a genuine buyer and covers issues like sales tax concerning sale and movement of goods.

Q. How efficiency is measured in commodities market? How efficient is MCX?

A. Efficiency in commodities market is measured in terms of bid ask spread, direct and indirect cost of trading and holding such positions. MCX has started trading last month and is witnessing a bid ask spread of Rs 2-3 at a price quote of around Rs. 6000 (10 Grams) and the buyers and sellers are available in the system at all times at such a narrow range. Moreover, the cost of trading in MCX is very optimal i.e. all you need is an initial deposit ofRs. 2.5 Lakhs only.

To understand this better, we shall observe a comparative analysis between deposit amounts required in MCX (i.e. Rs. 2.5 Lakhs) versus a deposit amount of Rs. 25 Lakhs (a hypothetical figure).

An optimum deposit amount does not mean a compromise on margin requirements and risk management checks, additional margins/ deposits required will bethe same to hold open position as in any other Exchange as at MCX. But the difference at MCX is that you need to block money only when you create a position in the Exchange. Thus it ensures thatthere is no idle money or in other words, its utilization is most optimal as the interest (vyaj) meter runs for all 24 hours and 365 days.

At MCX, the margin % in case of Gold is 5 %. Hence, with an initial deposit of Rs. 2.5 Lakhs, a member can create open outstanding position of Rs. 50 Lakhs. It is observed that normally 15 % of daily turnover remains as open position, which is a good beginning and once the market matures this normally goes up proving the effectiveness of hedging. Hence, in this example, if the open position is Rs. 50 Lakhs, his daily business should be Rs. 3.30 Crore. If there are 100 members in the Exchange, then total turnover of exchange should be Rs. 330 Crore. Similarly, if there are 500 brokers then exchange daily turnover is Rs. 1650 Crore. Thus it is very clear that initial deposit justifies the ground reality of achievable turnover as commodity futures market in India, is starting after 40 years of gap. So lot of awareness and education is required to be invested by all the stakeholders before this market starts witnessing substantial volumes.

For further clarity & understanding purpose, lets assume that MCX's initial deposit was Rs. 25 Lakhs, then to derive the real value of money invested, the total daily turnover on the exchange from day one has to be Rs.3300

Crore if there are 100 brokers. And Rs 16500 Crore if there are 500 brokers. Conclusively, from the detailed analysis of cost, we realize idle money in commodities futures market is a crime especially since interest cost makes a tremendous difference even up to two digits after the decimal point. In short, the difference between a winner and a loser is determined by whose cost of interest is more efficient.

Another fact that adds to this analysis is that since commodities markets are seasonal, the users of commodities markets prefer to bring in capital when they have large business during the crop season and would like to maintain very low idle money during slack season.

This equation suits the traders as a result of which, three large trade associations have already joined MCX.

Efficient utilization of capital in MCX as explained above permits a Trading Member or user to hedge his risk better and at a lower cost. Hedging is like insurance and, therefore, at higher costs there is tendency to avoid insurance and instead carry the risk which is what the industry has been doing till date. At MCX, an Exchange member uses his deposits optimally at Rs. 3.3 Crore of business per day. In case the member's business commitment requires more money seasonally, then the memberwill bring more money when needed. Thus, MCX prevents any idling of money during slack seasons and facilitates a low level of turnover requirement for 100% utilization of deposits. This means a low breakeven level and early profitability. Therefore, MCX with 100 members will have to only do a daily turnover of Rs. 330 Crore (both sides) and Rs 1650 Crore (both sides), in case of 500 brokers to enable all brokers to operate at the most optimal level. This is a realistic target to achieve. MCX is about 10 times (1000%) more efficient than an Exchange with Rs. 25 lakhs or so as the entry norm. Beyond this level of turnover, the members will bring capital only when needed and do business as per the market demand and MCX is all set to do a turnover of Rs.10,000 Crore a day and above. However on MCX, due to quick breakeven level, the members will have early and higher profitability due to efficient use of money and windfall gains.

Thus MCX provides the most attractive entry route to a $ 600 billion opportunity into the global commodities sector.

Education Series III

The government, after prolonged prohibition, has finally approved futures trading in all commodities. In order to activate the futures market, the government has mandated four commodity exchanges to establish national level multi-commodity exchanges.
There have been various incorrect perceptions about the commodities market founded on experiences in the securities market. These have hindered the development of the commodities market and the protection of real trading interests. Multi Commodity Exchange of India Limited (MCX) believes that the commodities market would be successful only if the commodities' eco-system partners use the exchange for its economic function of price discovery and price risk management.

Busting some of the myths about the commodities market-

Myth: Commodities markets are small due to the transaction size and number of players.

Reality: Securities cash : Rs. 12,00,000 Crore Derivatives: Rs. 25,00,000 Crore Commodities cash: Rs. 4,00,000 Crore
Derivatives: 20 times internationally and assumed to be 10 times in India. Possible commodity futures market size: Rs. 40,00,000 Crore

Myth: Commodities markets are very complex to understand.

Reality: The markets are not complex as the products are natural and therefore cannot be artificially manipulated. The demand and supply also depends on economic factors. It is easier to understand commodities, as in our everyday life we are familiar with commodities, we know the ruling prices of these commodities in the market, while in the stock market, we are not fully aware about the internal affairs of a company.

Myth: Only farmers are interested in trading and only they should be trading.

Reality: It is incorrect to say that only the farmers would use this market. Actually, the farmers only use the commodity futures prices as a tool to decide which crop to grow and some large farmers would use this market to hedge their price risk through an intermediary. These intermediaries would normally be the same commission agents who help the farmers to sell their crop in the cash market.

Myth: These markets are not really required and they only serve the need of speculators.

Reality: Commodities markets are needed for the most important economic function of price discovery and price risk management, Speculators constitute only one dimension of the market. They can work only because someone is hedging their risk in the market.

Myth: The economy does not need futures market.

Reality: A Futures Exchange provides price signals to producers and consumers based on which they meet their long terms requirements. These price signals are not available to the user unless there is a commodity futures exchange and in its absence, the markets have large price fluctuations. This is not in the interest of the producers and consumers. Price stabilisation comes from the price discovery process when market participants react positively to the information available to decide a price.

Multi Commodity Exchange

Myth: A Commodity Futures Exchange must have large capital.

Reality: A Commodity Futures Exchange has to be run and managed efficiently with optimal costs as the commodities markets does not provide listing fees as in the securities market and therefore all costs have to be recovered from revenues earned through transactions. Large infrastructure costs may translate into large costs to traders and which would have direct implications on hedging making it expensive. If real users of the commodities market use this market as insurance and discover that the cost of hedging is considerably high, they would prefer not to hedge but bearthe risk instead.

Myth: A Commodity Futures Exchange is represented by the size of its real estate.

Reality: No, its not true that the Commodity Futures Exchange is known by the size of its real estate. The new order Commodity Futures Exchanges may not necessarily require large conventional real estate. In fact in the new era the real estate is defined by the power of processors deployed to handle system driven trading and post trading operations.

Further, the Exchanges need an efficient team of professionals who thoroughly understand the intricacies of the commodities market, state of the art technology support partners and dynamic members.

Myth: A Commodity Futures Exchange must have large number of members to be successful.

Reality: The Commodity Futures Exchange should focus on good and wel-spread brokerage houses to penetrate the market. The market would soon move over to many intermediaries with separate trading rights and have few members with clearing rights like banks.

Myth: An Exchange must have cash settled contracts to avoid the pains of delivery handling process.

Reality: Cash settled market would be no different than an online lottery system. In such markets, the priMyth: The Depository system of electronic transfer of commodities is covered in the Depositories Act. Reality: It is incorrect

Myth: The regulatory framework covers agencies in the chain of the Demat Process for commodities

Reality: No, it is merely an understanding being reached within the trade and industry.

Myth: The Depository/Warehouse guarantees the quality.

Reality: Quality of delivery is not guaranteed by anyone. Until the standards in warehousing management improves to ensure preservation of the quality of goods stored no exchange or depository will be able to guarantee quality of the commodity in a warehouse. If the quality is not assured no benefit accrues to the actual user. Therefore, the Exchange should provide a system, whereby the sellers must ensure quality certification before tendering delivery and the buyers must have option to recheck the quality at the time of collecting delivery and in case of any discrepancies compared to the contract specifications, they should have an option to reject it. Worldwide, no Demat delivery is operational in commodities.

Myth: There is no guarantee of quality in a physical settlement between memberto memberthrough a warehouse.

Reality: The seller guarantees the quality to the buyer and therefore he takes care of storing the commodity, as it may be rejected by the buyer. He keeps it in a warehouse where he ensures preservation of quality and quantity of the commodity. Further, the buyer also has the option to recheck the quality at the time of delivery. For performing all such checks, there are professional firms of international repute, which are experts in certification. India is exporting a large number of agro-based commodities to Europe and America on the basis of such certification. Therefore, a commodity Exchange has to educate the members about the effective prevailing systems and to implement a settlement process based on a similar infrastructure.

Myth: The operators can manipulate commodity futures prices and so it is not safe to operate in this system.

Reality: It is incorrect that commodities prices can be manipulated because all these commodities are under OGL and in case somebody tries to corner stocks of a commodity to manipulate price, some importer will import that commodity from any other country and deliver in India nullifying the attempt to manipulate the price. In the stock markets, the floating stocks are limited so if an operator buys a large number of shares, prices will rise, which is not the case in commodities, because supply and floating stocks are virtually unlimited. In terms of fundamentals and technical analysis commodity prices follow the trends with more accuracy than as compared to scrip, because the commodity markets truly reflect the demand and supply factors.

Myth: Commodity futures markets are more risky and so it is not advisable to trade in commodities

Reality: While a scrip price can go down even by 30-40 percent in a single trading session, it cannot happen in commodity futures as the commodity futures price is based on the intrinsic value of the commodity. For instance, a scrip future can go down from Rs.4000 to Rs. 2800 in a single trading session, but Gold Feb 2004 contract would never come down from Rs. 6100 to Rs. 4100 in a single trading session, because the inherent value of gold would never fall so drastically. Therefore, it is always safe to operate in the commodity futures market as against the stockfutures market.

It is only an issue of in depth understanding of the real market and anticipating and delivering what the commodity industry actually requires.