In a situation when the commodity prices are shooting up and giving sleepless nights to the consumers, it has become a common practice to blame Futures trading for the price-rise in the commodities. Futures trading, which has been a historically followed practice in India, has, in recent times, found so many detractors, who have been arguing intermittently for a ban on futures trading when prices of a particular commodity surpass the realistic levels. However, the Union government does apply momentary restrictions on the futures trading in various commodities at times, but as the proponents of Futures markets maintained, that adds to the flurry of prices with further rise.

BC Khatua, Chairman, Forward Markets Commission (FMC) explained why speculative trading needs to be understood before blaming the Futures trading. In his opinion, Khatua mentioned that speculation to certain extent is inherent in the futures market to bear the risk in the market in case of excess supply or demand. Speculators are also the risk bearers. In an e-mailed interaction with Rutam Vora of Commodity Online, the futures market regulator informed about the role of a commodity bourse when trading activity becomes dubious and the role of the regulator so as to ensure fair price discovery. Excerpts:

Commodity Online: Recently bullish price movement in turmeric futures prompted NCDEX to increase margin levels. This is only an indicative example of exorbitant price rise during the futures trading. Considering this, does such trading bear implication on the actual prices of the commodity?

BC Khatua: Future trading in a commodity is a mechanism for price discovery and price risk management and not a mechanism to control the prices nor is it responsible for price rise in any commodity. The futures market is a mirror that reflects price lines of commodities being traded in the real economy. The prices of any commodity are governed by the physical demand and supply factors. A well-regulated futures market only discovers that. Futures markets are, therefore, in no way responsible for the inflationary pressure on the prices of the commodities. For instance, it has recently been reported that, food inflation has touched 17.7% and that inflation in pulses, milk and fruits topped the table. Neither milk nor fruits are traded on the Exchange and other than Chana, no other pulses are traded on the exchange platform. On the other hand, Chana prices on the futures market are modest on the strength of the strong supply side fundamentals. Similarly, in edible oils, in spite of 50% deficit in domestic supply vis-a-vis demand, the prices are steady due to easy and cheap availability of the commodity in international market and positive import conditions. Hence, to blame futures trading for price rise would be grossly baseless and unfair.

Regulatory tools such as open position limits, price (circuit) limits and margins are used to dissuade undue and disproportionate speculative activity from distorting the futures prices. The use of these regulatory tools, therefore, prevents unrealistic rise in prices that are not backed by economic fundamentals.

The ready and future prices of turmeric registered a rise during the period from 2nd March 2010 to 17th March 2010. The price rise was found to be mainly due to lower arrivals in the physical market and increased demand in the backdrop of a sharp fall in carryover stocks due to significant drop in the production and supply in the previous 2 years vis-a-vis the demand.

CO: What exchanges should do to avoid undue speculation in trading?

Khatua: The exchanges provide a platform for their members to trade in the futures market. They monitor the trading activities of their members, their open interest position on a daily basis and suggest measures to prevent manipulation of the market. The trading platform of the exchange is fully computerized, the Surveillance and Monitoring Division of the Exchange is able to track the open interest as well as trading pattern of each and every participant on a real time basis and react immediately by way of enforcement of regulatory tools in case of any aberration. The exchanges have their complaint grievance cell A vigilance cell to initiate action as and when required.

CO: What can be the role of the regulator to keep a check on such speculative price movement? And what options does FMC have for taking actions in the case of such speculative movement in essential commodities?

Khatua: Futures trading is inherently a market driven mechanism which can be instrumental in bringing down intra-seasonal price fluctuation in the domestic market by efficient discovery of futures prices, enabling the producers, processors, importers, exporters and consumers to plan their production, processing, marketing, stocks, imports and exports in advance and obviating the need to acquire stocks immediately for meeting future requirements. Speculation to certain extent is inherent in the futures market to bear the risk in the market in case of excess supply or demand. Speculators are also the risk bearers. The mandate of the Forward Markets Commission (FMC), under the FC (R) Act 1952 is to regulate the forward trading in the commodities and to ensure that the markets serve the intended purpose of price discovery and price risk management. To control undue speculation, the Forward Markets Commission, from time to time, reviews, revises and prescribes the following regulatory measures.

(a) Limit on the permissible open position of an individual operator to prevent over trading;

(b) Limit on daily price fluctuation (circuit limit) to prevent abrupt upswing or downswing in the prices;

(c) Special margin deposits to be collected on outstanding purchases and/or sales in addition to the normal VAR (value at risk) margins, to curb excessive speculative activity, through financial restraints;

(d) During times of shortages, the Commission may even take more stringent steps like skipping trading in certain deliveries of the contract, closing the markets for a specified period and even closing out the contract to overcome emergency situations.

The Commission ensures that the prices are discovered on the Exchange's platform through a transparent mechanism and the markets are not misused or abused. From the online monitoring of markets by the Commission or.on the basis of any complaints, if any unusual price movements are noticed, the Commission analyses the relevant trade data of concerned parties and if any attempt at manipulation or excessive speculation is noticed, immediate corrective/punitive action is taken against the concerned parties.

CO: Recently, FMC has raised penalty for illegal trading on the exchanges. Is there any plan for such penalty to be imposed on speculative trading too?

Khatua: As mentioned above, as and when required the Commission intervenes in the market and initiates necessary action as warranted by the particular situation, irrespective of whether it is a speculator or a hedger.

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