FMC might link trade positions with open interest

To converge the norms on derivatives with those for commodities, the Forward Markets Commission, regulator for the latter markets, is considering a proposal to link trading position limits to open interest (OI, the number of futures or options contracts not squared off, expired or fulfilled by delivery).

In securities markets, limits for a scrip in the derivative segment are linked to its market cap. If trading crosses 95 per cent of the free-float market cap, the stock exchange freezes further positions; only squaring off is allowed. In commodities, it is felt position limits and OI should also have a linkage. Especially in the case of agricultural commodities; guar, for instance, had seen huge trading volumes and OI, higher than the annual production of that commodity.

FMC has realised the need for higher position limits. These are being linked with OI; the limits would be based on production or consumption of that commodity. Details are still to be finalised. FMC has been asked by the Union finance ministry to reduce market manipulation and to introduce structured trading practices in commodities.

With FMC linking trade positions with OI, traders would be able to see the depth of participation in the commodity. FMC wishes to encourage participation in the commodity market. This has fallen after introduction of a commodity transaction tax on non-agri products. Currently, the position limit is capped at 15 per cent and clients are not able to use it fully.

FMC is also worried about factors creating disparity in the spot and futures market. An official source said the latter generally have circuit limits to contain volatility in trading. However, physical or spot market trading lacks these and the result is a disparity in prices. Ideally, futures should reflect what is happening in the spot market and indicate the trend. The disparity as mentioned leads to wrong signals from futures. The ideal situation would be to have similar barriers for trading in the futures and physical market but FMC has no control over what is happening in spot or physical markets, explained the official.

FMC has been taking several measures to reduce market manipulation and the risk management group it set up recommended several steps in this direction. These are being considered, said the official.