Commodities market ready for next big leap

The Bill to amend the Forward Contracts (Regulation) Act of 1952, governing commodities’ futures markets, has been referred for examination to a standing committee of Parliament. Passage of the Bill is crucial, as the commodity futures market is set to take a major leap and the regulator needs to be strengthened, with the powers to penalise wrongdoers and enough personnel to improve surveillance of the market.

The commodity futures market was opened up seven years ago, with permission to three nationwide online exchanges and the annual volume has just crossed Rs 100 trillion. The phenomenal growth is despite the fact that several institutional players are not allowed in the market and the regulator, the Forward Markets Commission (FMC), has no powers comparable to regulators in other sectors; the legislation seeks, among other things, to address this. With the rising volumes, proper regulation is the need of the hour.

 

An industry executive said, “One should expect the standing committee will not take a long time to clear the bill, as last year, the same committee had opined that the bill should be passed without wasting time, as lack of penal powers with the regulator and less manpower is not good for the orderly growth of the market.”

Teeth for FMC
On Friday, FMC is getting live data from exchanges but surveillance is difficult, as the regulator has no manpower to analyse that data.

Once the bill is passed by Parliament, the seven-year-old commodity futures market will see a sea change. The market will get depth and liquidity, with permission for new instruments like index and options trading, and exchange traded funds, and new players such as banks and institutional investors. Eventually, commodities could emerge as an investment class in India, instead of being confined to bullion.

“Indian commodity exchanges have been witnessing a tremendous surge in volumes over the past few years. The markets will continue to outperform, as more and more market participants become aware of their benefits,“ said P K Singhal, deputy MD of the Multi Commodity Exchange.

After a ban of almost three and a half decades, commodity futures (till 2003, futures were active in only a handful of commodities and only at regional levels) were launched on three nationwide online exchanges in 2003. For the past three years, they’ve been growing at above 40 per cent yearly.

“While 2010 will be remembered in history as a year that laid the base for strong growth for commodity futures market, 2011 will be a year in which this growth plan is expected be executed,” said Jayant Manglik, president, Religare commodities.

The futures market in commodities has five nationally active exchanges and a few more are expected to come in. “Commodity futures lack the required liquidity and permission to institutional players will bring much-needed liquidity in the market, making it attractive for hedging, too,” said Kumar Dasgupta, partner, PricewaterhouseCoopers. “Indian industry is now globalised but their main market is local and in many cases, while prices may have been set overseas, hedging in the domestic market will be useful. The trends in local and overseas markets are likely to be different, due to demand-supply gaps and currency volatility.”

He favours liquid long-term contracts to make the Indian market attractive for hedging in metals and other products.

Deepening ahead
India has the potential to be a price setter in many commodities such as sugar, wheat and gold and silver. This has not happened since the market is still not open to many. “There is a need for players with a different viewpoint to make this happen,” Kumar said.

In agriculture, commodities’ futures will take some time to succeed, as a linkage with the spot market is a requisite for futures, and there are no nationwide rates for agri commodities available. Also, various state taxes differ, making trading on the national platform difficult. APMCs are still working in traditional ways. At present, client-wise limits are so small that many companies wanting to hedge on commodities have stayed away and the entry of large institutional players could ensure higher limits, bringing depth to the market.

Still, Manglik notes, a warehouse regulator will be in place very soon, “and warehouse receipts (WRs) will become a negotiable instrument. This will financialise the commodity futures market in the true sense.”

It is expected that introduction of index trading and options will make hedging attractive and participants will be able to implement various hedging tools and a mix of options and futures in index products.