Futures and options trading in india bookshelves
An experiment in sustainable living T. Is it what pushed Raghuram… by Contributor 21st June 1, Viral essay: How to sponge off your loved ones… by Contributor 14th January 1, Tribute: Viji, the Turtle Girl by Contributor 18th April In a major push to widen the scope of commodity derivatives market in India, the Securities and Exchange Board of India SEBI has recently allowed options trading on commodity exchanges.
Kavaljit Singh, Global Research. Like futures, commodity options contracts are traded on major commodity exchanges across the world. Eurex Exchange offers options contracts on underlying commodity spot physical gold and crude oil. While Taiwan Futures Exchange allows market participants with open positions to seek delivery of physical gold in the case of gold options contracts. As the SEBI has granted permission for options trading in commodities, market analysts predict that commodity derivatives trading may grow futures and options trading in india bookshelves over the next five years.
The government may soon allow foreign banks, mutual funds, institutional investors and other financial players to trade in Indian commodity derivatives market which will further boost trading volumes in both options and futures contracts.
At the time of writing, it is unclear how many commodities would be permitted for options trade in the Indian market. It is also not yet known whether the SEBI will allow European options exercisable on expiration date only or American options exercisable any time on or before expiration date.
Currently, the modalities are being worked out and the options trading is expected to begin in early Meanwhile commodity market experts have asked SEBI to develop eligibility criteria for option writers based on financial soundness given the high degree of risk involved in selling options contracts. Futures and options are both derivatives products but the key difference between them is that the options give the holder the right to buy or sell the underlying asset at expiration while the holder of a futures contract is obligated to buy or sell the underlying asset on a future date.
In the case of commodity derivatives market, options provide an opportunity or the right not the obligation to investors to buy or sell a commodity futures contract at a specified price. Whereas futures contracts are derivatives of the physical commodity. Call options are most commonly used to protect against rising prices.
Put options are most commonly used to protect against falling prices. In other words, the cost of the option. In many ways, options act like insurance policies. For instance, put option buyers insure themselves against falling price of a commodity while the seller of a put option acts like an insurer by offering a price guarantee to buyers. Just like an insurance company, the seller of put option charges a premium whether the contract is exercised or not.
Since options are more complex instruments than stocks and bonds, they are not suitable for every trader, leave aside an futures and options trading in india bookshelves Indian farmer.
Due to volatility factor, options require a higher degree of sophistication on the part of the trader. Sophisticated traders can use options to benefit futures and options trading in india bookshelves any up and down market movements.
Options enable traders to make money even in those situation when is no market movement either way. Most options traders do not simply buy futures and options trading in india bookshelves and put options. They use complex trading strategies by combining many options and futures contracts or use dual directional strategies to make speculative profits from price movements in either direction.
Therefore, commodity options are more suitable for sophisticated traders and investors who have in-depth understanding of commodity derivatives markets and strong financial futures and options trading in india bookshelves. Options contracts can be very risky if used purely for speculative purposes because of the high degree of leverage futures and options trading in india bookshelves. Leverage magnifies both potential profits and potential losses. There are plenty of instances where improper use of options by traders have led to huge financial losses and bankruptcy.
It futures and options trading in india bookshelves important to note that the buyers of option contracts have a different risk than sellers. Unlike futures and options trading in india bookshelves contract which can potentially expose a trader to unlimited losses, the futures and options trading in india bookshelves in options to buyers is limited to the premium paid upfront plus commissions to brokers and exchange fees.
Besides, there are no margin calls for futures and options trading in india bookshelves buyers so they know the amount of payment and the maximum risk involved in buying options at the outset. But in the case of call options, the potential losses are theoretically limitless for sellers as the prices of underlying futures contracts can rise indefinitely and, therefore, the value of an options contract can also rise indefinitely. In the case of put options, the potential downside for sellers is limited to the value of the underlying futures contract.
An option seller has to meet margin requirements cash or securities deposited with brokerage firm as collateral until the contract is exercised or expires. What about positive spillovers? The arguments supportive of positive spillovers of options trading are highly overstated and backed by very little hard evidence, particularly in the futures and options trading in india bookshelves of commodity markets. The benefits in terms of greater information transmission, higher market liquidity and improved market stability are yet to be demonstrated empirically in commodity markets across the world.
The commodity exchanges and brokerage houses have welcomed the decision to introduce options trading on the expectation that higher trading volumes would boost their fees and commissions. This is understandable considering the nature of their business model. What is really perplexing is that the hard selling of options trading on the grounds that this move is essentially meant to help the Indian farming community.
We are extremely excited and welcome this decision which will help expand the product basket and make it attractive for new participants.
For the farmers, it will be a game changer. It would help them sell their produce in the derivatives market and thereby get the benefit of price protection in case the prices fall below their cost of production and also derive the benefit of any rise in the price. Options are also a much better hedging instrument as compared to futures for hedgers.
Not surprisingly, similar arguments were made in the s to introduce commodity futures trading. At that time, tall claims were made that commodity futures trading would facilitate efficient price risk management and price discovery in a fair, transparent and orderly manner.
It was claimed that futures market will help Indian farmers to hedge against potential risks arising out of price movements in spot markets so that they can get guaranteed price for their produce in the future. Besides, trading in futures would provide reliable price signals to farmers about the likely prices of their crops in the months ahead. However, both these economic objectives have not yet been realized across agricultural commodities and for some metals and mineralseven though commodity futures markets have been in operation in India since It is unfortunate that futures markets continue to be dominated by speculators and non-commercial players who frequently indulge in futures and options trading in india bookshelves rigging and other market abusive practices with impunity.
In India, the participation of farmers in commodity futures markets is negligible. According to market estimates, not even farmers in India are directly trading on commodity futures exchanges. Such bodies can act as aggregators and hedge positions in futures exchanges on the behalf of their farmers. The introduction of options trading in sensitive food security commodities calls for a cautious approach as price instability has been a major concern for producers and consumers in India.
An average Indian farmer lacks a basic understanding of what is involved in futures trading. The options trading is even more difficult to comprehend as it adds yet another layer of complexity on what is already a very complex trading instrument. Therefore, options contracts are not ideal for Indian farming community. In the same vein, small enterprises lack the resources and capacities to trade actively in derivatives contracts for hedging purposes.
Even experienced traders struggle to understand the risks involved in trading both futures and options contracts. Nowadays commodity exchanges are conducting short duration training workshops for small stakeholders but such workshops are inadequate to impart information and insights on the nuances of derivatives trading.
Instead of launching highly sophisticated derivatives instruments such as commodity options to help farmers, the Indian authorities should first focus on removing the bottlenecks such as fragmented nature of spot markets; over-politicization of state agricultural produces marketing committees APMCs and state agricultural produces marketing boards APMBs ; inadequate warehouses, storage and grading facilities; and poor condition of roads and other infrastructure in the rural India.
The proponents futures and options trading in india bookshelves that options contracts would complement the existing futures contracts and thereby would make Indian commodity derivatives more attractive to farmers and SMEs for hedging purposes. Hedgers are market players consisting of producers, processors and consumers with an exposure to the underlying commodity and they use derivatives markets primarily for hedging purposes.
The hedgers simultaneously operate in the spot market and the futures market. They try to reduce or eliminate their risk by taking an opposite position in the futures market on what they are trying to hedge in the spot market so that both positions cancel one another.
In the absence of strictly enforced guidelines classifying different categories of market participants, it is difficult to differentiate between speculators and hedgers in commodity derivatives markets. As a result, no one knows the true proportion of derivatives contracts used for purely hedging purposes in the Indian market. It is also difficult to determine whether a trader is buying or selling commodity derivatives contracts for purely speculative or hedging purposes. Not long ago, the FMC had acknowledged that the bulk of trading in the Indian commodity futures market is carried out by speculators and non-commercial traders who attempt to profit from buying and selling futures contracts by anticipating future price movements but have no intention of actually owning the physical commodity, while the participation of hedgers is almost negligible.
Most market analysts feel that the participation of hedgers in the futures market is relatively small. The frequent price manipulation scandals have further eroded their confidence and trust in the commodity derivatives market. It should be noted that in the Indian equity markets where options contracts are traded, these contracts are mostly used as a speculative tool to profit from market movement, rather than to hedge existing portfolios.
In all futures and options trading in india bookshelves, the introduction of commodity options trading will attract more speculative investments from big traders and speculators. These market players will now have a new instrument to add to their trading arsenal. With the expected entry of foreign banks, institutional investors and other financial players, the Indian commodity derivatives markets would move further away from fulfilling the twin objectives of hedging and price discovery.
The policy makers should take steps to avoid turning the entire commodity derivatives markets into an arena for pure speculative activities. What is good for financial investors and commodity speculators is not necessarily good for Indian farmers and small entrepreneurs. This policy move will have significant implications for inclusive growth and development and therefore requires a major rethink.
Sinha Anirudh Laskar, Live Mint The Securities and Exchange Board of India Sebi may soon allow mutual funds MFs to trade in commodity derivatives on exchanges, giving retail investors indirect exposure to the commodities market for the first time. Sinha said on Friday that the regulator will amend existing norms within a month or so to allow MFs to invest and trade in commodity derivatives on exchanges.
Price volatility evokes risks for both producers as well as consumers. A sharp increase in global food prices during resulted in food riots in many developing countries.
On the other hand, lower prices can lead to less income for producers and commodity exporting countries. Leave a Reply Cancel reply Your email address will not be published. Comment Name Email Website.
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