A Commodities may be defined as an article, a product or material
that is bought and sold. It can be classified as every kind
of movable property, except Actionable Claims, Money & Securities.
What is Derivative?
A derivative contract is an enforceable agreement whose
value is derived from the value of an underlying asset; the
underlying asset can be a Commodities, precious metal, currency,
bond, stock, or, indices of Commodities, stocks etc. Four most
common examples of derivative instruments are forwards, futures,
options and swaps/spreads.
What is Futures Contract?
A derivative instrument, Futures is a type of forward
contract. Futures are contracts to sell / buy standardized
financial instruments or Commodities on a specified future
date at an agreed price. Futures contracts are used generally
for protecting against adverse price fluctuation.
What is the difference between equity futures and
In equity futures the underlying asset is the equity
share of any company whereas in Commodities futures the underlying
asset is the Commodities itself.
What are the benefits of trading in Commodities futures?
Futures trading in Commodities results in transparent and
fair price discovery on account of large scale participation
and reflects views and expectations of wider section of people
related to that Commodities. Producers, traders and processors,
exporters/importers get an online platform through different
exchanges for price risk management. It providers a platform
for producers to hedge their positions according to their
view of the prices.
How is Future Prices Determined?
Futures prices evolve from the interaction of bids
and offers emanating from all over the country – which converge
in the trading floor or the trading engine. The bid and offer
prices are based on the expectations of prices on the maturity
What is an Exchange?
A place where things are exchanged, especially a
centre where securities or Commodities are bought and sold
What is Commodities Exchange?
Commodities Exchange is a common platform, where
market participants from varied spheres trade in wide spectrum
of Commodities derivatives. In Simpler terms one can determine
the price of contracts on a current date, for goods to be
transacted in future.
How many exchanges are there in
the country for Commodities futures trading?
There are some 21 Commodities exchanges in India.
However most of them are regional, offline (non screen-based)
and Commodities specific, hence these are almost inoperative.
Significantly the government has recently allowed four national
level multi-Commodities exchanges to trade in all permitted
Will there be separate trading
terminals/systems for Commodities futures?
Yes. Since the exchanges are separate, the VSATs,
trading terminals, risk management systems; contract notes
etc all will be independent of those for equity futures.
Which is the regulatory body for Commodities trading?
The Forward Markets Commission (FMC) is the regulatory
body for Commodities futures/forward trade in India. The commission
was set up under the Forward Contracts (Regulation) Act of
1952. It is responsible for regulating and promoting futures/forward
trade in Commodities. The FMC is headquartered in Mumbai while
its regional office is located in Kolkata.
What are Long & Short Positions?
In simple terms, long position is a net bought position,
while short position is a net sold positions
Why would one trade in Commodities
Trading in Commodities Exchange is mainly done for
three reasons: Hedging, Speculating & Arbitrage
What is Hedging?
Hedging is a mechanism by which the participants
in the physical/cash markets can cover their price risk. Theoretically,
the relationship between the futures and cash prices is determined
by cost of carry. The two prices therefore move in tandem.
This enables the participants in the physical/cash markets
to cover their price risk by taking opposite position in the
What is Speculating?
Speculators are participants who are willing to take
risks in the expectation of making profit. Any person, who
feels that the market will move in one direction, can thus
take a position in the market. Speculators provide liquidity
to the market; therefore, it is difficult to imagine a futures
market functioning without speculators.
What is Arbitrage?
Arbitraging is primarily done in two different ways
to make profit from the futures
Market Simultaneously purchase and sale goods in two different
markets so that the selling price is higher than the buying
price by more than the transaction cost, thus enabling a person
to make risk-less profits.
Simultaneously purchase / sale in the Spot market and sale
/ purchase in the futures markets so that the selling price
is higher than the buying price by more than the transaction
cost & the interest cost, again resulting in risk-less
What are Margins?
The aim of margin money is to minimize the risk of
default by either counter party. The amount of initial margin
is so fixed as to ensure that the probability of loss on account
of worst possible price fluctuation, which cannot be met by
the amount of ordinary/initial margin, is very low. The Exchanges
fix rates of ordinary/initial margin keeping in view need
to balance high security of contract and low cost of entering
How much margin is applicable
in the Commodities market? How is it arrived at?
As in stocks, in Commodities also the margin is calculated
by VaR system. Normally it is between 5-10% of the contract
value. The margin is different for each Commodities. Just
like in equities, in Commodities also there is a system of
initial margin and mark-to-market (MTM) margin. The margin
keeps changing depending on the change in price and volatility.