Commodity derivatives: Sebi changes priority regulation

Market opening for new players in futures to precede options; considering allowing PE, VCs first

Faced with legal difficulties in allowing options trading in commodities, the Securities and Exchange Board of India (Sebi) has decided to let in new institutional players in commodity futures to improve the depth of the market.

Although the regulator had floated a discussion paper to allow options in commodities first and then let in more players, it seems to come up against a legal snag.

Sources close to the development said that “till the legal framework for allowing options is cleared, Sebi will allow new players. Indian and overseas private equity funds and venture funds registered with Sebi under category 3 alternative investment funds (AIF) will be permitted first as their regulations permit them to participate in listed and unlisted derivatives.  Mutual funds, which are also regulated by Sebi, will be permitted after that. In the next phase, insurers and other financial institutions will come, and in the third leg banks will be permitted. These require the respective sectoral regulator’s green signal.”

In the board meeting held on Saturday, Sebi did not discuss allowing options.

Commodity exchanges have done a lot of preparation for introducing options trading, according to industry executives.

In 2017-18 Sebi will take action on commodity markets including providing more funds for research, improving risk management and integrating the commodity spot and derivatives markets, apart from considering allowing equity and commodity exchanges to enter each other’s territory.

Venture funds, regulated by Sebi under Alternative Investment Fund (AIF) Regulations, are allowed to participate in derivatives. According to Sebi FAQ, “Category III AIFs are those which employ diverse or complex trading strategies and may employ leverage including investment in listed or unlisted derivatives. Various types of funds such as hedge funds, private investment in public equities (PIPE) funds, etc, are registered as Category III AIFs.”

Vijay Sardana, member of Sebi’s commodity derivatives market advisory committee, said: “The committee has discussed increasing the depth of the commodity derivatives and all options including AIFs, banks and non-bank financing companies.”

The market is waiting to see different kinds of players and varieties products in commodity derivatives. According to Sebi, “Alternative Investment Fund or AIF means any fund established or incorporated in India, which is a privately pooled investment vehicle and collects funds from sophisticated investors, whether Indian or foreign, for investing it in accordance with a defined investment policy for the benefit of its investors.”

Many finance brokers doing badla (carryforward trade) in commodity derivatives might pool resources and form AIFs for participating in the market on a larger scale.