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Study of Indian

Commodities Market, its


Growth and Challenges

2010
KARVY COMTRADE
Company Guide LIMITED
Company Guide:
SUMMER INTERNSHIP PROJECT
Mr. Sushil Sinha,

Deputy General Faculty Guide:


Manager,
Prof. Suryanarayan,
Karvy Comtrade PREPARED BY:
Faculty, ITM Business School
Ltd. Page 1
Itm Business School LAKSHMAN TUNK
Acknowledgment
With great pleasure I take the privilege to acknowledge the people who have been involved in
completion of my interim project.

I acknowledge gratefully my indebtedness to my Company Guide; Mr. Sushil Sinha, Deputy


General Manager, Karvy Comtrade Limited (KCTL) for giving me an opportunity to do my
internship in such a competitive organization and providing his suggestions and guidance for the
project.

I would also like to show my deep gratitude towards members of the Research Department at
Karvy Comtrade Ltd. who provided me with all the data required for carrying out my study of
growth in the Commodities Market and also for helping me learn the basics of technical
analysis.

I would also like to thank the members of the Head Office Commodities Dealing room; Karvy
Comtrade Ltd. for their timely support and guidance.

I would like to thank Prof. Suryanarayana, my faculty in-charge for guiding me across this
period of internship.

In the end, I express my thanks to all those who were directly or indirectly involved in this
project.

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Declaration
I, Lakshman Tunk bearing Roll No. KHR2009PGDMF040, ITM Business School, Navi
Mumbai hereby declare that this project report is the record of authentic work carried out by me
(with the help of the data collected from the Research Department; Karvy Comtrade Ltd.) during
the period from 5th May, 2010 to 30th June, 2010 during my tenure as a summer trainee at
Karvy Comtrade Limited and has not been submitted to any other University or Institute for the
award of any degree / diploma etc.

Lakshman Tunk
ITM Business School
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Date

About the Organization:

Karvy Comtrade Limited (KCTL) is another venture of the prestigious Karvy group. With well
established presence in the multifarious facets of the modern financial services industry from
stock broking to registry services, Karvy also entered into the commodities derivatives market.

The company provides investment, advisory and brokerage services in Indian Commodities
Markets. And most importantly, they offer a wide reach through their branch network of over
225 branches located across 180 cities.

The headquarters of Karvy Comtrade Limited (KCTL) is located at Karvy Comtrade Limited,
46, Avenue 4, Street No. 1, Banjara Hills, Hyderabad – 500 034, Andhra Pradesh, India.

Contact Details:

Mail: commodity@karvy.com

Telephone: +91-40–23431569/23388708/32946279/32946313

Fax: +91-040-66259955/66255559

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Executive Summary:
Commodities Market is a market where commodity future contracts are traded. Commodities’
trading has been in existence in India since past 130 years but due to constant ban and tightening
of regulations in the market by the government, it could never build its roots firmly on the
ground and thereby developed at a snail’s pace till recently. But with the new Exchanges like
MCX and NCDEX coming in and providing a better platform for trading and with more support
from the government this market is growing at a rapid pace now with over 111% growth since
2006-07.

Commodities market consists of three participants namely Hedgers, Speculators and Arbitragers
who trade in the market through various national and regional exchanges for various benefits
and reasons. Commodities that are traded in this market are categorized as bullion, metals,
agriculture and energy. Some of the major commodities that are traded on various exchanges are
gold, guar seed, copper, silver, crude oil etc. As of now only futures trading is allowed in the
Indian Commodities Market with a ban on the options trading in India.

The futures prices of most of the commodities in India depend on the foreign markets like
COMEX, LME etc for their directions. The growth of this market depends on a lot of factors
like awareness among traders, infrastructure, support from the government etc.

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Table of Contents:

1. Introduction……………………………………………………………………7
1.1. Objectives Of Study………………………………………………………7
2. Introduction to Futures………………………………………………………...8
3. Introduction to Commodities Future Market………………………………….11
3.1. Hierarchy of commodities market………………………………………..14
3.2. Major Commodity Exchanges……………………………………………15
3.2.1.Multi Commodity Exchange………………………………………15
3.2.2.National Commodities & Derivatives Exchange………………….17
3.2.3.New York Mercantile Exchange…………………………………..21
4. Commodities Market Participants……………………………………………..22
4.1. Hedgers…………………………………………………………………...22
4.2. Speculators………………………………………………………………..24
4.3. Arbitragers..................................................................................................24
5. Cost Of Carry Model………………………………………………………….25
5.1. Comparative analysis of spot vs. futures prices of gold contract(GCM0).27
6. Components of transaction…………………………………………………….30
6.1. Trading……………………………………………………………………30
6.2. Clearing and Settlement…………………………………………………..32
7. Regulations…………………………………………………………………….35
8. Introduction to technical analysis……………………………………………...37
8.1. Charts……………………………………………………………………..40
8.2. Candlestick Charts………………………………………………………...40
9. Growth of Commodities Market in India……………………………………...47
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10. Union Budget.....................................................................................................54
11. Major Challenges of Commodities Market……………………………………57
12. Bibliography…………………………………………………………………...60

1. Introduction:
1.1. Objectives of Study

1. The scope of this project is to study the overall commodities market; its working, rules
and regulations etc in India

2. To study the various components that exists in this market

3. To study and analyze the current status of commodities market in India

4. To study the growth and development of the market in India

5. To study the challenges that is faced by the commodities market in India

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2. Introduction to Futures:
Forward Market:

A forward contract is an agreement to buy or sell an asset on a specified date for a specified
price. Other contract details like delivery date, price and quantity are negotiated bilaterally by
the parties to the contract. The forward contracts are normally traded outside the exchanges. The
salient features of forward contracts are:

➢ They are bilateral contracts and hence exposed to counter-party risk.


➢ Each contract is custom designed, and hence is unique in terms of contract size,
expiration date and the asset type and quality.
➢ The contract price is generally not available in public domain.
➢ On the expiration date, the contract has to be settled by delivery of the asset.
➢ If the party wishes to reverse the contract, it has to compulsorily go to the same
counterparty, which often results in high prices being charged.

Limitations of forward contract:

➢ Lack of centralization of trading


➢ Illiquidity, and
➢ Counterparty risk

Future Market:

Futures markets were designed to solve the problems that exist in forward markets. A futures
contract is an agreement between two parties to buy or sell an asset at a certain time in the future

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at a certain price. But unlike forward contracts, the futures contracts are standardized and
exchange traded. To facilitate liquidity in the futures contracts, the exchange specifies certain
standard features of the contract. It is a standardized contract with standard underlying
instrument, a standard quantity and quality of the underlying instrument that can be delivered,
(or which can be used for reference purposes in settlement) and a standard timing of such
settlement. A futures contract may be offset prior to maturity by entering into an equal and
opposite transaction. More than 99% of futures transactions are offset this way. The
standardized items in a futures contract are:

➢ Quantity of the underlying


➢ Quality of the underlying
➢ The date and the month of delivery
➢ The units of price quotation and minimum price change
➢ Location of settlement

Distinction between futures and forwards

Futures Forwards
Trade on an organized exchange OTC in nature
Standardized contract terms hence more liquid Customized contract terms hence less liquid
Follows daily settlement Settlement happens at end of period

Futures terminology

➢ Spot price: The price at which an asset trades in the spot market.
➢ Futures price: The price at which the futures contract trades in the futures market.
➢ Contract cycle: The period over which a contract trades.
➢ Expiry date: It is the date specified in the futures contract. This is the last day on
which the contract will be traded, at the end of which it will cease to exist.
➢ Delivery unit: The amount of asset that has to be delivered under one contract.

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➢ Basis: Basis can be defined as the futures price minus the spot price. There will be a
different basis for each delivery month for each contract. In a normal market, basis
will be positive. This reflects that futures prices normally exceed spot prices.
➢ Cost of carry: The relationship between futures prices and spot prices can be
summarized in terms of what is known as the cost of carry. This measures the storage
cost plus the interest that is paid to finance the asset less the income earned on the
asset.
➢ Initial margin: The amount that must be deposited in the margin account at the time
a futures contract is first entered into is known as initial margin.
➢ Marking-to-market (MTM): In the futures market, at the end of each trading day,
the margin account is adjusted to reflect the investor's gain or loss depending upon
the futures closing price. This is called marking-to-market.
➢ Maintenance Margin: This is somewhat lower than the initial margin. This is set to
ensure that the balance in the margin account never becomes negative. If the balance
in the margin account falls below the maintenance margin, the investor receives a
margin call and is expected to top up the margin account to the initial margin level
before trading commences on the next day.

Options:

Options are derivative contracts which give the holder of the option the right to do something.
The holder does not have to exercise this right. In contrast, in a forward or futures contract, the
two parties have committed themselves to doing something. Whereas it costs nothing (except
margin requirements) to enter into a futures contract, the purchase of an option requires an up-
front payment.

There are two basic types of options, call options and put options.

➢ Call option: A call option gives the holder the right but not the obligation to buy an
asset by a certain date for a certain price.
➢ Put option: A put option gives the holder the right but not the obligation to sell an asset
by a certain date for a certain price.

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Options are currently not traded in the commodities future market.

3. Introduction to Commodities Future Market:

Derivatives as a tool for managing risk first originated in the commodities markets. They were
then found useful as a hedging tool in financial markets as well. In India, trading in commodity
futures has been in existence from the nineteenth century with organized trading in cotton
through the establishment of Cotton Trade Association in 1875. Over a period of time, other
commodities were permitted to be traded in futures exchanges. Regulatory constraints in 1960s
resulted in virtual dismantling of the commodities future markets. It is only in the last decade
that commodity future exchanges have been actively encouraged.

History:

The history of organized commodity derivatives in India goes back to the nineteenth century
when the Cotton Trade Association started futures trading in 1875, barely about a decade after
the commodity derivatives started in Chicago. Over time the derivatives market developed in
several other commodities in India. Following cotton, derivatives trading started in oilseeds in
Bombay (1900), raw jute and jute goods in Calcutta (1912), wheat in Hapur (1913) and in
Bullion in Bombay (1920).

However, many feared that derivatives fuelled unnecessary speculation in essential


commodities, and were detrimental to the healthy functioning of the markets for the underlying
commodities, and hence to the farmers. With a view to restricting speculative activity in cotton
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market, the Government of Bombay prohibited options business in cotton in 1939. Later in
1943, forward trading was prohibited in oilseeds and some other commodities including food-
grains, spices, vegetable oils, sugar and cloth.

After Independence, the Parliament passed Forward Contracts (Regulation) Act, 1952 which
regulated forward contracts in commodities all over India. The Act applies to goods, which are
defined as any movable property other than security, currency and actionable claims. The Act
prohibited options trading in goods along with cash settlements of forward trades, rendering a
crushing blow to the commodity derivatives market. Under the Act, only those
associations/exchanges, which are granted recognition by the Government, are allowed to
organize forward trading in regulated commodities. The Act envisages three-tier regulation: (i)
The Exchange which organizes forward trading in commodities can regulate trading on a day-to-
day basis; (ii) the Forward Markets Commission provides regulatory oversight under the powers
delegated to it by the central Government, and (iii) the Central Government - Department of
Consumer Affairs, Ministry of Consumer Affairs, Food and Public Distribution - is the ultimate
regulatory authority.

The already shaken commodity derivatives market got a crushing blow when in 1960s,
following several years of severe draughts that forced many farmers to default on forward
contracts (and even caused some suicides); forward trading was banned in many commodities
considered primary or essential. As a result, commodities derivative markets dismantled and
went underground where to some extent they continued as OTC contracts at negligible volumes.
Much later, in 1970s and 1980s the Government relaxed forward trading rules for some
commodities, but the market could never regain the lost volumes.

Change in Government Policy

After the Indian economy embarked upon the process of liberalization and globalization in 1990,
the Government set up a Committee in 1993 to examine the role of futures trading. The
Committee (headed by Prof. K.N. Kabra) recommended allowing futures trading in 17
commodity groups. It also recommended strengthening of the Forward Markets Commission,
and certain amendments to Forward Contracts (Regulation) Act 1952, particularly allowing

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options trading in goods and registration of brokers with Forward Markets Commission. The
Government accepted most of these recommendations and futures trading was permitted in all
recommended commodities.

Commodity futures trading in India remained in a state of hibernation for nearly four decades,
mainly due to doubts about the benefits of derivatives. Finally a realization that derivatives do
perform a role in risk management led the government to change its stance. The policy changes
favoring commodity derivatives were also facilitated by the enhanced role assigned to free
market forces under the new liberalization policy of the Government. Indeed, it was a timely
decision too, since internationally the commodity cycle is on the upswing.

Different Components of the Commodities Market are:

1. Lot sizes:

Commodities are traded in equal sized lots where the each lot specifies the minimum amount of
quantity that is available for trading in that commodity. The permitted trading lot size for the
futures contracts on individual commodities is stipulated by the exchange from time to time.

Example: Lot size for GOLD.995 Contract is 1KG on MCX.

2. Price Quotation:

This is the price that is shown on the terminal for a specified quantity of a commodity.

Example: Price Quotation for GOLD.995 Contract is 10Gram on MCX.

3. Physical Settlement:

Physical settlement involves the physical delivery of the underlying commodity, typically at an
accredited warehouse. The seller intending to make delivery would have to take the
commodities to the designated warehouse and the buyer intending to take delivery would have
to go to the designated warehouse and pick up the commodity. Physical settlement of
commodities is a complex process. The issues faced in physical settlement are enormous.

➢ There are limits on storage facilities in different states.


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➢ There are restrictions on interstate movement of commodities. Besides state level octroi
and duties have an impact on the cost of movement of goods across locations.

4. Warehousing:

Commodity exchanges use certified warehouses (CWH) for the purpose of handling physical
settlements. Such CWH are required to provide storage facilities for participants in the
commodities markets and to certify the quantity and quality of the underlying commodity. The
advantage of this system is that a warehouse receipt becomes good collateral, not just for
settlement of exchange trades but also for other purposes too. In India, the warehousing system
is not as efficient as it is in some of the other developed markets. Central and state government
controlled warehouses are the major providers of agriculture-produce storage facilities. Apart
from these, there are a few private warehousing being maintained. However there is no clear
regulatory oversight of warehousing services.

5. Quality of underlying assets:

When the underlying asset is a commodity, the quality of the underlying asset is of prime
importance. There may be quite some variation in the quality of what is available in the
marketplace. When the asset is specified, it is therefore important that the exchange stipulate the
grade or grades of the commodity that are acceptable. Commodity derivatives demand good
standards and quality assurance/ certification procedures. A good grading system allows
commodities to be traded by specification.

Currently there are various agencies that are responsible for specifying grades for commodities.
For example, the Bureau of Indian Standards (BIS) under Ministry of Consumer Affairs
specifies standards for processed agricultural commodities whereas AGMARK under the
department of rural development under Ministry of Agriculture is responsible for promulgate
MoCA-Ministry of
standards for basic agricultural commodities. Apart from these, there are Consumer Affairs
other agencies like
EIA, which specify standards for export oriented commodities. FMC-Forward Market
Commission
3.1. Hierarchy of Commodities Market: MCX-Multi Commodity
Exchange

ITM Business School NCDEX-National


CommodityPage
& 14
Derivatives Exchange

NMCE-National Multi
Commodity Exchange
3.2. Major Exchanges:

3.2.1. Multi Commodity Exchange (MCX):

Headquartered in the financial capital of India, Mumbai, Multi Commodity Exchange of India
Ltd (MCX) is a state-of-the-art electronic commodity futures exchange. The demutualised
Exchange set up by Financial Technologies (India) Ltd (FTIL) has permanent recognition from
the Government of India to facilitate online trading, and clearing and settlement operations for
commodity futures across the country. The Exchange started operations in November 2003, and
has risen to the No. 1 position among all commodity exchanges in India.

MCX has been certified to three ISO standards including ISO 9001:2000 quality management
standard, ISO 27001:2005 information security management standard and ISO 14001:2004
environment management standard. MCX offers futures trading in more than 40 commodities
from various market segments including bullion, energy, ferrous and non-ferrous metals, oil and
oil seeds, cereal, pulses, plantation, spices, plastic and fiber. It has strategic alliances with
various leading International Exchanges, including Tokyo Commodity Exchange, London Metal
Exchange, New York Mercantile Exchange, Bursa Malaysia Derivatives Berhad, among others.
For MCX, staying connected to the grassroots is imperative. Its domestic alliances aid in
improving ethical standards and providing services and facilities for overall improvement of the
commodity futures market.

Key shareholders:

Promoted by FTIL, MCX enjoys the confidence of blue chips in the Indian and international
financial sectors. MCX's broad-based strategic equity partners include NYSE Euronext, State
Bank of India and its associates (SBI), National Bank for Agriculture and Rural Development
(NABARD), National Stock Exchange of India Ltd (NSE), SBI Life Insurance Co Ltd, Bank of
India (BOI) , Bank of Baroda (BOB), Union Bank of India, Corporation Bank, Canara Bank,
HDFC Bank, Fid Fund (Mauritius) Ltd. - an affiliate of Fidelity International, ICICI Ventures,
IL&FS, Kotak Group, Citi Group and Merrill Lynch.

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Major Commodities Traded:

GOLD.995 GOLDMINI GOLDGUINEA

SILVER SILVERMINI COPPER

CRUDE OIL NICKEL LEAD

ZINC NATURAL GAS MENTHOL

ALUMINIUM CRUDEPALMOIL POTATO

Table showing the one rupee movement and Breakeven Point (BEP) of the above commodities
in MCX

Commod Tic M B of B(.03)


ity PQ k ML G MP 0.03 *2 BEP
10gra 1809 18102.
gold.995 ms 1 1 kg 100 2 542.76 1085.52 86
10 100 1808 18099.
goldM grams 1 grams 10 9 54.267 108.534 85
8 8 1421 14227.
goldGuinea grams 1 grams 1 9 4.2657 8.5314 53
2971 29732.
Silver 1kg 1 30 kg 30 5 267.435 534.87 83
2971 29731.
silverM 1 kg 1 5 kg 5 4 44.571 89.142 83
100 318. 318.94
Copper 1 kg 0.05 1 MT 0 75 95.625 191.25 13
100 3386.0
crude oil 1 BBL 1 BBL 100 3384 101.52 203.04 3
1020 1021.0
Nickel 1 kg 0.1 250 kg 250 .4 76.53 153.06 12
500 91.554
Lead 1 kg 0.05 5 MT 0 91.5 137.25 274.5 9
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500 94.0 94.106
ZINC 1 kg 0.05 5 MT 0 5 141.075 282.15 43
1
Natural mmBt 1250 125 193. 193.91
Gas u 0.1 mmBtu 0 8 72.675 145.35 63
703. 703.62
Menthol 1 kg 0.1 360 kg 360 2 75.9456 151.8912 19
500 95.157
Aluminium 1 kg 0.05 5 MT 0 95.1 142.65 285.3 06
*Cardamo 1540.9
m 1 kg 0.1 100 kg 100 1540 46.2 92.4 24
crude palm 100 366.21
oil 10 kg 0.1 10 MT 0 366 109.8 219.6 96
479.28
Potato 100 kg 0.1 30 MT 300 479 43.11 86.22 74
354.21
*Almond 1 kg 0.25 500 kg 500 354 53.1 106.2 24

* indicates commodities rarely/less traded on MCX

Where:

PQ=Price Quotation

ML=Market Lot

MG=Money Generated

MP=Market Price as on 12/5/2010

B=Brokerage (3 paisa)

BEP=Breakeven Point when bought at Market Price

3.2.2. National Commodities and Derivatives Exchange (NCDEX):

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NCDEX is a public limited nation-level, technology driven de-mutualised on-line commodity
exchange with an independent Board of Directors and professional management - both not
having any vested interest in commodity markets. It is committed to provide a world-class
commodity exchange platform for market participants to trade in a wide spectrum of commodity
derivatives driven by best global practices, professionalism and transparency. It was
incorporated on April 23, 2003 under the Companies Act, 1956. It obtained its Certificate for
Commencement of Business on May 9, 2003. It commenced its operations on December 15,
2003.

NCDEX is regulated by Forward Markets Commission. NCDEX is subjected to various laws of


the land like the Forward Contracts (Regulation) Act, Companies Act, Stamp Act, Contract Act
and various other legislations.

NCDEX headquarters are located in Mumbai and offers facilities to its members from the
centres located throughout India.

The Exchange, as on May 21, 2009 when Wheat Contracts were re-launched on the Exchange
platform, offered contracts in 59 commodities - comprising 39 agricultural commodities, 5 base
metals, 6 precious metals, 4 energy, 3 polymers, 1 ferrous metal, and CER. The top 5
commodities, in terms of volume traded at the Exchange, were Rape/Mustard Seed, Gaur Seed,
Soyabean Seeds, Turmeric and Jeera.

Promoter shareholders: ICICI Bank Limited (ICICI)*, Life Insurance Corporation of India
(LIC), National Bank for Agriculture and Rural Development (NABARD) and National Stock
Exchange of India Limited (NSE).

Other shareholders: Canara Bank, Punjab National Bank (PNB), CRISIL Limited, Indian
Farmers Fertiliser Cooperative Limited (IFFCO), Goldman Sachs, Intercontinental Exchange
(ICE) and Shree Renuka Sugars Limited

Major Commodities Traded:

CHANA CHILLI COCUD

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CPO DHANIYA GARGUM

GARSEED GURCH JEERA

PEPPER RAPEMUSTSEED SOYBEAN

REFINED SOY OIL TURMERIC STEELLONG

Table showing the one rupee movement and Breakeven Point (BEP) of the above commodities
in NCDEX

B of
Commodi Tic M 0.03 B(.03)
ty PQ k ML G MP % *2 BEP
381. 11.45 381.97
*BADAM 100 KG 0.2 10 MT 100 75 25 22.905 91
*CASTORSE 3086.8
ED 100 KG 0.5 10 MT 100 3085 92.55 185.1 51
2179.3
CHANNA 100 KG 0.5 10 MT 100 2178 65.34 130.68 07
66.61 4443.6
CHILLI 100 KG 1 5 MT 50 4441 5 133.23 65
960.57
COCUD 100 KG 0.5 10 MT 100 960 28.8 57.6 6
CRUDE 0.0 100 363.21
PALM OIL 10 KG 5 10 MT 0 363 108.9 217.8 78
2802.6
DHANIYA 100 KG 1 10 MT 100 2801 84.03 168.06 81
74.32 4957.9
GARGUM 100 KG 1 5 MT 50 4955 5 148.65 73
2313.3
GARSED 100 KG 1 10 MT 100 2312 69.36 138.72 87
974.58
GURCH 40 KG 0.2 10 MT 250 974 73.05 146.1 44
JEERA 100 KG 1 3 MT 30 1215 109.3 218.754 12160.

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3 77 29
*KACHIGHA 0.0 100 460.27
NI 10 KG 5 10 MT 0 460 138 276 6
0.0 894.53
MAIZE 100 KG 5 10 MT 100 894 26.82 53.64 64
*MENTHOL 84.56 783.46
OIL 1 KG 0.1 360 KG 360 783 4 169.128 98
20.20 449.26
POTATO 100 KG 0.1 15 MT 150 449 5 40.41 94
1650 16509.
PEPPER 100 KG 1 1 MT 10 0 49.5 99 9
*RBD 0.0 100 403.24
PALMOLIEN 10 KG 5 10 MT 0 403 120.9 241.8 18
1533 45.99 15341.
*RUBBER 100 KG 1 1 MT 10 2 6 91.992 2
RAPE MUST 0.0
SEED 20 KG 5 10 MT 500 500 75 150 500.3
1652 16529.
*SBMEAL 1 MT 10 10 MT 10 0 49.56 99.12 91
2005.2
SOYBEAN 100 KG 0.5 10 MT 100 2004 60.12 120.24 02
REF SOYA 0.0 100 446. 133.9 446.91
OIL 10 KG 5 10 MT 0 65 95 267.99 8
1472 441.7 14733.
TURMERIC 100 KG 1 10 MT 100 5 5 883.5 84
1155.6
WHEAT 100 KG 0.2 10 MT 100 1155 34.65 69.3 93
1
*BRENT BARRE 100 109.7 3660.1
CRUDE L 0.5 BARREL 100 3658 4 219.48 95
*THERMALC 2511.5
OAL 1 MT 10 10 MT 10 2510 7.53 15.06 06
1
BARRE 100 101.2 3376.0
*CRUDE OIL L 1 BARREL 100 3374 2 202.44 24
*NATURAL 1 0.1 1250 125 184. 69.03 138.075 184.21

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GAS mmBtu mmBtu 0 1 75 05
*ALUMINIU 200 187. 112.6 187.91
M 1 KG 0.1 2 MT 0 8 8 225.36 27
0.0 100 317. 95.26 317.74
*COPPER 1 KG 5 1 MT 0 55 5 190.53 05
10 1827 548.1 18283.
*KILO GOLD GRAM 1 1 KG 100 3 9 1096.38 96
*GOLD 10 100 1805 54.15 18061.
100GM GRAM 1 GRAM 10 1 3 108.306 83
*GOLD
PURE
INTERNATI 10 1837 551.3 18390.
ONA GRAM 1 1 KG 100 9 7 1102.74 03
0.0 100 92.455
*LEAD 1 KG 5 1 TON 0 92.4 27.72 55.44 44
0.0 1036 77.71 1036.7
*NICKEL 1 KG 5 250 KG 250 .2 13 155.4225 72
1 250 189.0 2522.5
*PLATINUM GRAM 0.5 GRAM 250 2521 75 378.15 13
*PURE
SILVER 5 2900 29017.
KG 1 KG 1 5 KG 5 0 43.5 87 4
*SILVER 2950 29517.
PURE 1 KG 1 30 KG 30 0 265.5 531 7
*SILVER 3052 274.7 30541.
PURE INT 1 KG 1 30 KG 30 3 07 549.414 31
STEEL 2506 25075.
LONG 1 MT 10 10 MT 10 0 75.18 150.36 04
0.0 500 94.456
*ZINC 1 KG 5 5 MT 0 94.4 141.6 283.2 64

* indicates commodities rarely/less traded on NCDEX

Where:

PQ=Price Quotation
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ML=Market Lot

MG=Money Generated

MP=Market Price as on 12/5/2010

B=Brokerage (3 paisa)

BEP=Breakeven Point when bought at Market Price

3.2.3. New York Mercantile Exchange (NYMEX):

The New York Mercantile Exchange (NYMEX) is the world's largest physical commodity
futures exchange, located in New York City. Its two principal divisions are the New York
Mercantile Exchange and Commodity Exchange, Inc (COMEX) which were once separate but
are now merged. The parent company of the New York Mercantile Exchange, Inc., NYMEX
Holdings, Inc. became listed on the New York Stock Exchange on November 17, 2006, under
the ticker symbol NMX. On March 17, 2008, Chicago based CME Group signed a definitive
agreement to acquire NYMEX Holdings, Inc. for $11.2 billion in cash and stock.

History:

Commodity exchanges began in the middle of the 19th century, when businessmen began
organizing market forums to make buying and selling of commodities easier. These
marketplaces provided a place for buyers and sellers to set the quality, standards, and establish
rules of business. By the late 1800s about 1,600 marketplaces had sprung up at ports and
railroad stations. In 1872, a group of Manhattan dairy merchants got together and created the
Butter and Cheese Exchange of New York. Soon, egg trade became part of the business
conducted on the exchange and the name was modified to the Butter, Cheese, and Egg
Exchange. In 1882, the name finally changed to the New York Mercantile Exchange when
opening trade to dried fruits, canned goods, and poultry.

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As centralized warehouses were built into principal market centers such as New York and
Chicago in the early 20th century, exchanges in smaller cities began to disappear giving more
business to the exchanges such as the NYMEX in bigger cities. In 1933, the COMEX was
established through the merger of four smaller exchanges; the National Metal Exchange, the
Rubber Exchange of New York, the National Raw Silk Exchange, and the New York Hide
Exchange. On August 3, 1994, the NYMEX and COMEX finally merged under the NYMEX
name. Now, the NYMEX operates in a trading facility and office building with two trading
floors in the World Financial Center in downtown Manhattan

Commodities Traded:

NYMEX Division

Coal Crude Oil Electricity

Gasoline Heating oil Natural gas

Palladium Platinum Uranium

COMEX Division

Aluminum Copper Gold Silver

4. Market Participants:

There are 3 different types of Participants in the commodities market namely:

➢ Hedgers

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➢ Speculators
➢ Arbitragers

4.1. Hedgers:

Many participants in the commodity futures market are hedgers. They use the futures market to
reduce a particular risk that they face. This risk might relate to the price of wheat or oil or any
other commodity that the person deals in. The classic hedging example is that of wheat farmer
who wants to hedge the risk of fluctuations in the price of wheat around the time that his crop is
ready for harvesting. By selling his crop forward, he obtains a hedge by locking in to a
predetermined price. Hedging does not necessarily improve the financial outcome; indeed, it
could make the outcome worse. What it does however is, that it makes the outcome more
certain. Hedgers could be government institutions, private corporations like financial
institutions, trading companies and even other participants in the value chain, for instance
farmers, extractors, ginners, processors etc., who are influenced by the commodity prices.

There are basically two kinds of hedges that can be taken:

Short Hedge:

A short hedge is a hedge that requires a short position in futures contracts. It is appropriate when
the hedger already owns the asset, or is likely to own the asset and expects to sell it at some time
in the future.

Long Hedge:

Hedges that involve taking a long position in a futures contract are known as long hedges. A
long hedge is appropriate when a company knows it will have to purchase a certain asset in the
future and wants to lock in a price now.

Hedge Ratio:

Hedge ratio is the ratio of the size of position taken in the futures contracts to the size of the
exposure in the underlying asset.

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σS
h=ρ
σF

Where:

• S: Change in spot price, S,


during a period of time equal to the life of the hedge

• F: Change in futures price,


F, during a period of time equal to the life of the hedge

• : Standard deviation of
σS

S

• : Standard deviation of F
σR ∆

• : Coefficient of correlation between S and F


ρ ∆ ∆

• h : Hedge ratio
Advantages of hedging:
• Hedging stretches the marketing period
• Hedging protects inventory values
• Hedging permits forward pricing of products
Limitation of hedging:
• The asset whose price is to be hedged may not be exactly the same as the asset

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underlying the futures contract
• The hedger may be uncertain as to the exact date when the asset will be bought or sold
• The expiration date of the hedge may be later than the delivery date of the futures
contract

4.2. Speculators:

An entity having an opinion on the price movements of a given commodity can speculate using
the commodity market. While the basics of speculation apply to any market, speculating in
commodities is not as simple as speculating on stocks in the financial market. For a speculator
who thinks the shares of a given company will rise, it is easy to buy the shares and hold them for
whatever duration he wants to. However, commodities are bulky products and come with all the
costs and procedures of handling these products. The commodities futures markets provide
speculators with an easy mechanism to speculate on the price of underlying commodities.

There are 2 ways how the commodity futures markets can be used for speculation.

• Bullish commodity, buy futures


• Bearish commodity, sell futures

4.3. Arbitragers:

Arbitrage involves simultaneous purchase and sale of the same or essentially similar security in
two different markets for advantageously different prices. The buying cheap and selling
expensive continues till prices in the two markets reach equilibrium. Hence, arbitrage helps to
equalize prices and restore market efficiency.

F = (S+U)erT

Where

r =cost of financing

T=time till expiration


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U=present value of all storage costs

Whenever the futures price deviates substantially from its fair value, arbitrage opportunities
arise. To capture mispricing that result in overpriced futures, the arbitrager must sell futures and
buy spot, whereas to capture mispricing that result in underpriced futures, the arbitrager must
sell spot and buy futures.

5. Cost of Carry Model:

Price Discovery:

The process of arriving at a figure at which a person buys and another sells a futures contract for
a specific expiration date is called price discovery.

For pricing purposes, forward and the futures market are treated as one and the same. A futures
contract is nothing but a forward contract that is exchange traded and that is settled at the end of
each day. The buyer who needs an asset in the future has the choice between buying the
underlying asset today in the spot market and holding it, or buying it in the forward market. If he
buys it in the spot market today, it involves opportunity costs. He incurs the cash outlay for
buying the asset and he also incurs costs for storing it. If instead he buys the asset in the forward
market, he does not incur an initial outlay. However the costs of holding the asset are now
incurred by the seller of the forward contract who charges the buyer a price that is higher than
the price of the asset in the spot market. This forms the basis for the cost-of-carry model where
the price of the futures contract is defined as:

F=S–C

Where:

F = Futures price

S = Spot price

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C = Holding costs or carry costs

The fair value of a futures contract can also be expressed as: F = S(l + r)T (Discrete
Compounding)

r = percent cost of financing

T = time till expiration

Whenever the futures price moves away from the fair value, there would be opportunities for
arbitrage. If F < S(1 + r)T or F > S(1 + r)T, arbitrage would exist.

Pricing of options and other complex derivative along with futures securities requires the use of
continuously compounded interest rates.

F = SerT

e = 2.71828

Futures Basis:

The cost-of-carry model explicitly defines the relationship between the futures price and the
related spot price. The difference between the spot price and the futures price is called the basis.
We see that as a futures contract nears expiration, the basis reduces to zero. This means that
there is a convergence of the futures price to the price of the underlying asset. This happens
because if the futures price is above the spot price during the delivery period it gives rise to a
clear arbitrage opportunity for traders. In case of such arbitrage the trader can short his futures
contract, buy the asset from the spot market and make the delivery. This will lead to a profit
equal to the difference between the futures price and spot price. As traders start exploiting this
arbitrage opportunity the demand for the contract will increase and futures prices will fall
leading to the convergence of the future price with the spot price. If the futures price is below
the spot price during the delivery period all parties interested in buying the asset will take a long
position. The trader would buy the contract and sell the asset in the spot market making a profit
equal to the difference between the future price and the spot price. As more traders take a long

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position the demand for the particular asset would increase and the futures price would rise
nullifying the arbitrage opportunity.

Fig: Variation of basis over time

5.1. Comparative analysis of spot vs. futures prices of Gold Contract (GCM0)

To study the variation of basis over time, I have taken up June10 Gold contract (GCM0
Comdty

) of COMEX. The specification of this contract is as under:

Contract start date: 29th June 2005

Contract end date: 28th June 2010

1 lot= 100 troy oz

1 troy oz= 31.1 grams

Though the contract started in June 2005 I have taken the data from 31st December 2007 till 17th
June 2010 for this study because of very low liquidity in the contract at its initial years. The
contract was not actively traded because of its long trading cycle and slow movement. However
the volumes started showing up in this Contract since last few months as it neared expiration as
can been seen from the below table.
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Year Volume in Lots

2005 34
2006 990
2007 11541
2008 28271

2009 187216

2010 7448588

Fig: No. of lots traded in GCM0 Commdy contract of COMEX from 29 th June 2005 to 24th June
2010.

Graph showing the movement of spot and futures price of the GCM0 Comdty from 31st Dec
2007 to 17th June 2010 is given below

Fig: line graph showing spot and future movement

Note: Daily Closing prices of spot and futures has been taken to draw the line graph.

Findings:

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As can be seen from the above chart that as the contract nears expiration the spot and the futures
prices start converging with any difference in the prices being used advantageously by the
arbitragers. The prices of the contract move in almost the same ranges as the spot in the
developed market with any opportunity for arbitration being captured by the arbitrages. In the
above GCM0 Commodity contract of COMEX we can see that there was almost negligible
volume of trades happening in the initial years and also there was a difference in the spot and
future prices during that period due to the absence of the market participants but as the contract
neared expiration the volumes increased and the prices started converging and moved in the
same range.

6. Components of transaction:

For any transaction to be complete it has to go under the following three components namely
trading, clearing and settlement.

6.1. Trading:

Trading involves the determination or fixation of price of the commodity between the buyer and
the seller.

Futures trading system:

The trading system provides a fully automated screen-based trading for futures on commodities
on a nationwide basis as well as an online monitoring and surveillance mechanism. It supports
an order driven market and provides complete transparency of trading operations.

When any order enters the trading system, it is an active order. It tries to find a match on the
other side of the book. If it finds a match, a trade is generated. If it does not find a match, the
order becomes passive and gets queued in the respective outstanding order book in the system.
Time stamping is done for each trade and provides the possibility for a complete audit trail if
required.

Commodity futures trading cycle:

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Trading in any futures contract is valid until the expiration of the contract after which trading in
that contract is seized. This cycle from the start of the contract till its expiry is referred to as
trading cycle of that contract.

EXAMPLE:

GOLD.995 (NCDEX)

Start Date: 07Dec2009 12:00:00 AM

End Date: 05Aug2010 11:59:59 PM

Contract Cycle:

Contract cycle specifies the number of contracts in a given commodity available for trading at a
specific period/time in the future market.

Fig. Contract Cycle in NCDEX

The figure shows the contract cycle for futures contracts on NCDEX. As can be seen, at any
given point of time, three contracts are available for trading - a near-month, a middle-month
and a far-month. As the January contract expires on the 20th of the month, a new three-month
contract starts trading from the following day, once more making available three index futures
contracts for trading.

Trading conditions:

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There are broadly three conditions attached to each order that is placed for trading namely:

➢ Time Condition
➢ Price Condition
➢ Other Condition

Margins for trading in futures

Margin is the deposit money that needs to be paid to buy or sell each contract. The margin
requirements for most futures contracts range from 2% to 15% of the value of the contract.

Types of margins as they apply on most futures exchanges are:

Initial margin: The amount that must be deposited by a customer at the time of entering into a
contract is called initial margin. This margin is meant to cover the largest potential loss in one
day. The margin is a mandatory requirement for parties who are entering into the contract.

Maintenance margin: To ensure that the balance in the margin account never becomes
negative, a maintenance margin, which is somewhat lower than the initial margin, is set. If the
balance in the margin account falls below the maintenance margin, the trader receives a margin
call and is requested to deposit extra funds to bring it to the initial margin level within a very
short period of time.

Additional margin: In case of sudden higher than expected volatility, the exchange calls for an
additional margin, this is a preemptive move to prevent breakdown.

Mark-to-Market margin (MTM): At the end of each trading day, the margin account is
adjusted to reflect the trader's gain or loss. This is known as marking to market the account of
each trader.

6.2. Clearing and Settlement:

Most futures contracts do not lead to the actual physical delivery of the underlying asset. The
settlement is done by closing out open positions, physical delivery or cash settlement. All these
settlement functions are taken care of by an entity called clearing house or clearing corporation.

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Clearing:

Clearing involves finding out net outstanding. Clearing of trades that take place on an exchange
happens through the exchange clearing house. A clearing house is a system by which exchanges
guarantee the faithful compliance of all trade commitments undertaken on the trading floor or
electronically over the electronic trading systems. The main task of the clearing house is to keep
track of all the transactions that take place during a day so that the net position of each of its
members can be calculated.

Clearing house is responsible for the following:

➢ Effecting timely settlement.


➢ Trade registration and follow up.
➢ Control of the evolution of open interest.
➢ Financial clearing of the payment flow.
➢ Physical settlement (by delivery) or financial settlement (by price difference) of
contracts.
➢ Administration of financial guarantees demanded by the participants.

There are two types of clearing members:

Trading cum clearing members (TCMs)

The TCM membership entitles the members to trade and clear, both for themselves and/ or on
behalf of their clients.

Professional clearing members (PCMs)

The PCM membership entitles the members to clear trades executed through Trading cum
Clearing Members (TCMs), both for themselves and/ or on behalf of their clients.

Clearing mechanism:

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The clearing mechanism essentially involves working out open positions and obligations of
clearing members. This position is considered for exposure and daily margin purposes. The open
positions of PCMs are arrived at by aggregating the open positions of all the TCMs clearing
through him, in contracts in which they have traded. A TCM's open position is arrived at by the
summation of his clients' open positions, in the contracts in which they have traded. Client
positions are netted at the level of individual client and grossed across all clients, at the member
level without any set-offs between clients. Proprietary positions are netted at member level
without any set-offs between client and proprietary positions.

Settlement:

Settlement involves actual exchange of commodities or settling through cash and closing out the
open positions. Futures contracts have two types of settlements, the MTM settlement which
happens on a continuous basis at the end of each day, and the final settlement which happens on
the last trading day of the futures contract.

➢ Daily settlement price: Daily settlement price is the consensus closing price as arrived
after closing session of the relevant futures contract for the trading day. However, in the
absence of trading for a contract during closing session, daily settlement price is
computed as per the methods prescribed by the exchange from time to time.

➢ Final settlement price: Final settlement price is the closing price of the underlying
commodity on the last trading day of the futures contract. All open positions in a futures
contract cease to exist after its expiration day.

Settlement Mechanism

Settlement of commodity futures contracts is a little different from settlement of financial


futures which are mostly cash settled. The possibility of physical settlement makes the process a
little more complicated.

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Daily mark to market settlement is done till the date of the contract expiry. This is done to take
care of daily price fluctuations for all trades.

On the date of expiry, the final settlement price is the spot price on the expiry day. The spot
prices are collected from members across the country through polling. The polled bid/ ask prices
are bootstrapped and the mid of the two bootstrapped prices is taken as the final settlement price.

Settlement methods

Settlement can be done in three ways namely:

➢ Physical delivery of the underlying asset


➢ Closing out by offsetting positions
➢ Cash settlement

7. Regulations:

At present, there are three tiers of regulations of forward/futures trading system in India, namely,
government of India, Forward Markets Commission (FMC) and commodity exchanges. The
need for regulation arises on account of the fact that the benefits of futures markets accrue in
competitive conditions. Proper regulation is needed to create competitive conditions. In the
absence of regulation, unscrupulous participants could use these leveraged contracts for
manipulating prices. This could have undesirable influence on the spot prices, thereby affecting
interests of society at large.. Regulation is also needed to ensure that the market has appropriate
risk management system. In the absence of such a system, a major default could create a chain
reaction. The resultant financial crisis in a futures market could create systematic risk.
Regulation is also needed to ensure fairness and transparency in trading, clearing, settlement and
management of the exchange so as to protect and promote the interest of various stakeholders,
particularly non-member users of the market.

Rules governing commodity derivatives exchanges

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1. Limit on net open position as
on the close of the trading hours. Sometimes limit is also imposed on intra-day net open
position. The limit is imposed operator-wise, and in some cases, also member wise.

2. Circuit-filters or limit on
price fluctuations to allow cooling of market in the event of abrupt upswing or downswing in
prices.

3. Special margin deposit to be


collected on outstanding purchases or sales when price moves up or down sharply above or
below the previous day closing price. By making further purchases/sales relatively costly, the
price rise or fall is sobered down. This measure is imposed only on the request of the exchange.

4. Circuit breakers or
minimum/maximum prices: These are prescribed to prevent futures prices from falling below as
rising above not warranted by prospective supply and demand factors. This measure is also
imposed on the request of the exchanges.

5. Skipping trading in certain


derivatives of the contract, closing the market for a specified period and even closing out the
contract: These extreme measures are taken only in emergency situations.

Penalties for default:

Any buyer or seller if fails to take or deliver the commodities which he/she is obliged to, then in
such condition penalty is imposed on such defaulters by closing out their derivatives contracts
by the exchange. It can also use the margins deposited by such clearing member to recover the
loss. The settlement for the defaults in delivery is to be done in cash within the period as
prescribed by the exchange at the highest price from the last trading date till the final settlement
date with a markup thereon as may be decided from time to time.

Clearing and settlement process

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Settlement obligations statements for TCMs: The exchange generates and provides to each
trading clearing member, settlement obligations statements showing the quantities of the
different kinds of commodities for which delivery/ deliveries is/ are to be given and/ or taken
and the funds payable or receivable by him in his capacity as clearing member and by
professional clearing member for deals made by him for which the clearing Member has
confirmed acceptance to settle. The obligations statement is deemed to be confirmed by the
trading member for which deliveries are to be given and/ or taken and funds to be debited and/
or credited to his account as specified in the obligations statements and deemed instructions to
the clearing banks/ institutions for the same.

Settlement obligations statements for PCMs: The exchange/ clearing house generates and
provides to each professional clearing member, settlement obligations statements showing the
quantities of the different kinds of commodities for which delivery/ deliveries is/ are to be given
and/ or taken and the funds payable or receivable by him. The settlement obligation statement is
deemed to have been confirmed by the said clearing member in respect of every and all
obligations enlisted therein.

Rules governing investor grievances, arbitration

In matters where the exchange is a party to the dispute, the civil courts at Mumbai have
exclusive jurisdiction and in all other matters, proper courts within the area covered under the
respective regional arbitration center have jurisdiction in respect of the arbitration proceedings
falling/ conducted in that regional arbitration center.

8. Introduction to Technical analysis:

The methods used to analyze securities and make investment decisions fall into two very broad
categories: fundamental analysis and technical analysis. Fundamental analysis involves
analyzing the characteristics of a company in order to estimate its value. Technical analysis
takes a completely different approach; it doesn't care one bit about the "value" of a company or a
commodity. Technicians (sometimes called chartists) are only interested in the price movements
in the market.

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The art of technical analysis is to try to identify trend changes at an early stage and maintain an
investment or trading posture until the weight of evidence shows or proves that the trend has
reversed. Evidence here refers to price patterns, trend lines, moving averages, momentum and so
forth [1].

One of the most important concepts in technical analysis is that of trend. The meaning in finance
isn't all that different from the general definition of the term - a trend is really nothing more than
the general direction in which a security or market is headed. Take a look at the chart below:

Source: investopedia.com

Types of Trend

There are three types of trend:

•Uptrends

•Downtrends

•Sideways/Horizontal Trends

As the names imply, when each successive peak and trough is higher, it's referred to as an
upward trend. If the peaks and troughs are getting lower, it's a downtrend. When there is little
movement up or down in the peaks and troughs, it's a sideways or horizontal trend. If you want
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to get really technical, you might even say that a sideways trend is actually not a trend on its
own, but a lack of a well-defined trend in either direction. In any case, the market can really only
trend in these three ways: up, down or nowhere.

Trend Lengths

Along with these three trend directions, there are three trend classifications. A trend of any
direction can be classified as a long-term trend, intermediate trend or a short-term trend. In terms
of the stock market, a major trend is generally categorized as one lasting longer than a year. An
intermediate trend is considered to last between one and three months and a near-term trend is
anything less than a month. A long-term trend is composed of several intermediate trends, which
often move against the direction of the major trend. If the major trend is upward and there is a
downward correction in price movement followed by a continuation of the uptrend, the
correction is considered to be an intermediate trend. The short-term trends are components of
both major and intermediate trends. Take a look at the below Figure to get a sense of how these
three trend lengths might look.

Chart by MetaStock

Trendlines

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A trendline is a simple charting technique that adds a line to a chart to represent the trend in the
market or a stock. Drawing a trendline is as simple as drawing a straight line that follows a
general trend. These lines are used to clearly show the trend and are also used in the
identification of trend reversals.

Support:

Support can be defined as buying, actual or potential, sufficient in volume to halt a downtrend in
prices for an appreciable period. Support can be thought of as a temporary floor.

Resistance:

Resistance can be defined as selling, actual or potential, sufficient in volume to satisfy all bids
and hence stop prices going higher for a time. Resistance can be thought as a temporary ceiling.

Below chart shows the support and resistance lines:

Chart by MetaStock
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8.1. Charts:

A chart is simply a graphical representation of a series of prices over a set time frame.

There are four main types of charts that are used by investors and traders depending on the
information that they are seeking and their individual skill levels. The chart types are: the line
chart, the bar chart, the candlestick chart and the point and figure chart.

I will be concentrating on candlestick charts in this report.

8.1.1. Candlestick Chart:

In this type of charts the candles consists of a vertical rectangle with two lines spiking up and
down. The vertical rectangle is known as the real body and encompasses the trading activity
between the opening and closing prices. For example, if the opening price is higher than the
closing price, it will be recorded at the top of the real body and the closing price at the bottom.
The vertical line above the body measures the distance between the high of the day and the
higher of the opening or closing price. The lower line represents the distance between the low of
the day and the lower of the opening or closing price. Days when the close is higher than the
opening are represented by transparent real bodies; days when the opening is higher than the
close are displayed by a solid real body.

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Source: StockCharts.com

Long Versus Short Bodies:

Generally speaking, the longer the body is, the more intense the buying or selling pressure.
Conversely, short candlesticks indicate little price movement and represent consolidation.

Source: StockCharts.com

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Long white candlesticks show strong buying pressure. The longer the white candlestick is, the
further the close is above the open. This indicates that prices advanced significantly from open
to close and buyers were aggressive.

Long black candlesticks show strong selling pressure. The longer the black candlestick is, the
further the close is below the open. This indicates that prices declined significantly from the
open and sellers were aggressive.

Long Versus Short Shadows

The upper and lower shadows on candlesticks can provide valuable information about the
trading session. Upper shadows represent the session high and lower shadows the session low.
Candlesticks with short shadows indicate that most of the trading action was confined near the
open and close. Candlestick with long shadows show that traded extended well past the open
and close.

Source: StockCharts.com

Spinning Tops:

Candlesticks with a long upper shadow, long lower shadow and small real body are called
spinning tops. One long shadow represents a reversal of sorts; spinning tops represent

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indecision. The small real body (whether hollow or filled) shows little movement from open to
close, and the shadows indicate that both bulls and bears were active during the session.

Source: StockCharts.com

Even though the session opened and closed with little change, prices moved significantly higher
and lower in the meantime. Neither buyers nor sellers could gain the upper hand and the result
was a standoff.

Doji are important candlesticks that provide information on their own and as components of in a
number of important patterns. Doji form when a security's open and close are virtually equal.
The length of the upper and lower shadows can vary and the resulting candlestick looks like a
cross, inverted cross or plus sign. Alone, doji are neutral patterns. Any bullish or bearish bias is
based on preceding price action and future confirmation. The word "Doji" refers to both the
singular and plural form.

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Source: StockCharts.com

Bulls vs. Bears

A candlestick depicts the battle between Bulls (buyers) and Bears (sellers) over a given period of
time. An analogy to this battle can be made between two football teams, which we can also call
the Bulls and the Bears. The bottom (intra-session low) of the candlestick represents a
touchdown for the Bears and the top (intra-session high) a touchdown for the Bulls. The closer
the close is to the high, the closer the Bulls are to a touchdown. The closer the close is to the
low, the closer the Bears are to a touchdown. While there are many variations, I have narrowed
the field to 6 types of games (or candlesticks):

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Source: StockCharts.com

1. Long white candlesticks indicate that the Bulls controlled the ball (trading) for most of
the game.

2. Long black candlesticks indicate that the Bears controlled the ball (trading) for most of
the game.

3. Small candlesticks indicate that neither team could move the ball and prices finished
about where they started.

4. A long lower shadow indicates that the Bears controlled the ball for part of the game, but
lost control by the end and the Bulls made an impressive comeback.

5. A long upper shadow indicates that the Bulls controlled the ball for part of the game, but
lost control by the end and the Bears made an impressive comeback.

6. A long upper and lower shadow indicates that the both the Bears and the Bulls had their
moments during the game, but neither could put the other away, resulting in a standoff.

Candlestick Positioning:

Star Position:

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A candlestick that gaps away from the previous candlestick is said to be in star position. The
first candlestick usually has a large real body, but not always, and the second candlestick in star
position has a small real body. Depending on the previous candlestick, the star position
candlestick gaps up or down and appears isolated from previous price action.

Harami Position

A candlestick that forms within the real body of the previous candlestick is in Harami position.
Harami means pregnant in Japanese and the second candlestick is nestled inside the first. The
first candlestick usually has a large real body and the second a smaller real body than the first.
The shadows (high/low) of the second candlestick do not have to be contained within the first,
though it's preferable if they are.

Source: StockCharts.com Source: StockCharts.com

Moving Averages:

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Most chart patterns show a lot of variation in price movement. This can make it difficult for
traders to get an idea of a security's overall trend. One simple method traders use to combat this
is to apply moving averages. A moving average is the average price of a security over a set
amount of time. By plotting a security's average price, the price movement is smoothed out.
Once the day-to-day fluctuations are removed, traders are better able to identify the true trend
and increase the probability that it will work in their favor.

Types of Moving Averages

There are a number of different types of moving averages that vary in the way they are
calculated, but how each average is interpreted remains the same. The calculations only differ in
regards to the weighting that they place on the price data, shifting from equal weighting of each
price point to more weight being placed on recent data. The three most common types of moving
averages are simple, linear and exponential.

Conclusion:

It’s all very well knowing the principles and theory of technical analysis, but it is equally
important to be able to put them in practice. You must be prepared to change your position if
market conditions change or if things do not work out as you originally expected.

Technical analysis can do a lot of help if we have patience, discipline, and objectivity to apply
the basic principles. But it is not a guarantee success system you must be ready for failures also
as there is and never can be a sure shot successful predictions about any market, we can only get
close to perfection with more and more evidence of the market movements in any direction.

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9. Growth of Commodities Market in India

Total volume traded in crores in commodities market:

Findings:

The above bar chart shows that the volumes traded in the commodity market is steadily growing
from 3676926.67 crore in 2006-07 to 7764754.05 crore in 2009-10(till 31st may 2010) which
shows a growth of over 111.17% . The yearly growth from Apr-2006 to May-2010 has been
10.98 %, 29.09% and 47.92% for the years 2006-7 to 2007-08, 2007-08 to 2008-09, 2008-09
to 2009-10 respectively which shows that the commodity market has been steadily growing over
the years.

Share of different commodities for the year Apr2009 to March2010 (till 31st March) and
Apr2008 to March2009 (till 31st March)

Findings:

• The Bullion Commodities has the highest percentage of share among all the commodities
traded in the commodities market with 56.65% and 40.75% in the years 2008 & 2009
respectively
• The part of share of bullion commodities has gone to the metals in the year 2009-10 with
the metals growing from 11.79% to 23.20%
• The share value of Agriculture Commodities has gone up from 11.95% in 2008-09 to
15.69% in 2009-10 which is due to the after recession effects and relaxing of rules by the
regulator
• The share value of Metals other than bullion has gone up from 11.79% in 2008-09 to
23.20% in 2009-10 due to the huge rally in the leading 5 metals commodities lead by
copper which was due to lower prices and growth in the china’s industries which caused

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huge demand for these metals thereby making these metals fundamentally strong for
participants to invest
• The share value of Energy commodities is more or less constant at 20%
• The share value of Other commodities also remained constant at 0.05%

Growth in different categories of commodities traded in the market:

Findings:

From the above bar chart we can observe that the growth in the Metals Commodities has been
the highest with 191.16% followed by Agriculture, Energy, Other and Bullion with 94.15%,
53.72%, 13.53% and 6.4% of growth respectively. However the bullion commodities still lead
the race in the trading volume with a share of 40.75% for the year 2009-10 though there has
been a decrease in this from 57% as in the year 2008-09.This decrease in share of bullions in the
market has been captured by the Metals with 23.20% in 2009-10 from 12% in 2008-09.

The total volumes traded on different National Exchanges for the year 2009 (1 st Jan to 31st
May) are:

Findings:

It is evident from the above chart that Multi Commodity Exchange (MCX) has the highest
volumes traded compared to all other Exchanges with 88% share followed by National
Commodities and Derivatives Exchange (NCDEX) with 10% share even though both have
started functioning in the same year i.e. in 2003.

This huge share of MCX in the commodities market can be attributed to the promotional
strategies carried out by its promoters FTIL in popularizing the exchange whereas NCDEX
being an entity of National Stock Exchange (NSE) could not gain such popularity, as NSE had
its commitments in promoting and handling its core business in Share Market.

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Note: Trade volumes on other regional exchanges are negligible and have not been considered
here for calculation.

The total volumes traded on different National Exchanges for the year 2010 (1st Jan to 31st
May) are:

Findings:

It is evident from the above chart that Multi Commodity Exchange (MCX) has the highest
volumes traded compared to the other Exchanges with 82% share in the year 2010 also followed
by National Commodities and Derivatives Exchange (NCDEX) with 10% share.

However its (MCX) share has gone down from 88% to 82% with the commencement of the new
National Exchange, Indian Commodities Exchange Limited (ICEX) which started on 27th
November 2009. This exchange has been able to take 5% share of the market surpassing the
already established National Multi Commodity Exchange (NMCE).

Note: Trade volumes on other regional exchanges are negligible and have not been considered
here for calculation.

Comparison between the volumes in the National Exchanges for the years 2009 & 10 from
1st Jan to 31st May

Findings:

The above chart shows that the growth in volumes traded is highest in NMCE with 76.2%
followed by NCDEX and MCX with 53.5% and 41.6% respectively. However its (NMCE) share
has grown by a mere 1% from its 2009 levels.

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MCX still has the highest volumes traded among all the exchanges with 88 % and 82% share of
the total volumes traded in the market in years 2009 and 2010 respectively.

Share of Volume traded by value in major commodities of MCX for the years 2008-09 &
2009-10 from 1st April to 31st March

Findings:

1. The share of Gold is highest in both the years though there has been a decrease in it from
46% in 2008-09 to 30% in 2009-10 due to sharp rises in the prices of gold and the
recovery of economy after recession which in turn made the other market stable with lots
of opportunity
2. Share of silver remained unchanged with 18% in both the years
3. Share of copper has increased by 5% from 9% in 2008-09 to 14% in 2009-10 which can
be attributed to the rise in industries in china along with the huge opportunity which lied
in the metals after it had a huge fall in prices in 2008
4. Share of crude oil had a slight loss of its share from 21% in 2008-09 to 19% in 2009-10
5. Share of other commodities traded on MCX increased from 6% in 2008-09 to 19% in
2009-10 due to the recovery of the markets and opportunities lying in that rest of the 18
commodities regularly traded. The market was driven by the metal commodities from
front

Volume traded in no. of LOTS in major commodities of MCX for the years 2008-09 &
2009-10 from 1st April to 31st March

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Findings:

Growth in terms of Percentage:

Volumes in Lots
Commodities Gold Silver Copper Crude Oil
2008-09 32064397 25412753 16809421 28381734
2009-10 26832155 29332735 31354624 36821896
Percentage -19.49 13.36 46.38 22.92

1. No. of lots traded in all the Gold contracts has seen a dip from 32064397 in 2008-09 to
26832155 in 2009-10 thereby having a decline of 19.49% also it has lost its no. 1
position in terms of volume of lots traded.
2. No. of lots traded in all silver contracts has increased from 25412753 in 2008-09 to
29332735 in 2009-10 thereby having a rise of 13.36%.
3. No. of lots traded in Copper contracts has increased from 16809421 in 2008-09 to
31354624 in 2009-10 thereby having a rise of 46.38%. This commodity has seen the
highest growth percentage among all others.
4. No. of lots traded in Crude Oil contracts has increased from 28381734 in 2008-09 to
36821896 in 2009-10 thereby having a rise of 22.92% making it the highest traded
commodity w.r.t to no. of lots.

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10. Union Budget 2010-11:

What’s in store for commodities market?

The Union Budget 2010-11 has mainly focused on broad-based growth for the country and
priority has been given to food security. The budget has incorporated measures covering the
investment scenario, fiscal consolidation and infrastructure. Initiatives have been introduced for
sustained and inclusive growth. The main focus of the Finance Ministry is now to revert to the
high GDP growth, remove weakness at different levels of governance, improve public delivery
mechanism and ensure better management of supply-demand imbalance.

1. Import duty on Silver has been raised from Rs1,000/kg to Rs1,500/kg and this move
could affect the demand pattern of the white metal.

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2. Precious metal prices have risen sharply in the last year and this has affected demand for
these commodities in India. If cost pressures on the commodity continue to rise then
demand could be affected further.
3. Customs duty on Gold and Platinum has also been raised from Rs200 per 10 grams to
Rs300 per 10 grams. This rise in customs duty is negative for the gems and jewelry
sector in India. The move will make gold and platinum costlier commodities, thereby
hurting demand and imports will come down. But one aspect for gold demand from the
Indian perspective is that demand for jewelry can never die out as gold has a traditional
value attached in India. The country has held its position as the world's largest gold
consuming nation in 2009 as consumer demand boosted in the fourth-quarter.
4. Basic customs duty on Gold Ore and Concentrates reduced from 2% (according to value)
to a specific duty of Rs140 per 10 grams of gold content with full exemption from
special additional duty. Further, excise duty on refined gold made from such ore or
concentrate reduced from 8% to a specific duty of Rs280 per 10 grams. This move will
help to boost domestic gold refining capacity in India.
5. The budget has overall tried to incorporate measures for each sector. This gives the
country scope for further improvement in GDP growth. Special emphasis is placed on
infrastructure growth which could help to boost demand for steel.
6. The budget provides Rs173,552cr for infrastructure and this accounts for more than 46%
of the total plan allocation. Though no specific mention has been made with regard to
Steel, growth in infrastructure will obviously translate into growth for the steel sector as
well.
7. The Finance Ministry has also decided to formally give a symbol to the Indian Rupee.
This will help to give a stand to India's currency especially as India has now ventured
into currency futures.
8. For the metals sector as well, the budget could prove beneficial as 46% has been
allocated for the infrastructure space. This could lead to demand for steel and other
metals.

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11. Major Challenges of Commodities Market in India:

As Commodity futures markets are the strength of an agricultural surplus country like India.
Commodity exchanges play a pivotal role in ensuring stronger growth, transparency and
efficiency of the commodity futures markets. This role is defined by their functions,
infrastructure capabilities, trading procedures, settlement and risk management practices.
However, Indian commodity exchanges are still at a nascent stage of development as there are
numerous bottlenecks hampering their growth.

The institutional and policy-level issues associated with commodity exchanges have to be
addressed by the government in coordination with the FMC in order to take necessary measures

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to pave the way for a significant expansion and further development of the commodity futures
markets. Some of the major problems associated with commodity markets in India include
infrastructure, trading system, broking community, controlled market, integration of regional
and national exchanges as also integration of spot and futures markets.

Also lack of proper knowledge about the market put participants in trouble by wiping out their
wealth through trades done without proper trading knowledge and skills. Thereby the
participants start deserting the market after a brief stint, which damages the market sustenance in
the long run. Hence, in order to ensure their own survival, the markets are duty bound to impart
knowledge among the participants and help then mature in their trading skills. Such requirement
is particularly more significant in commodities market which is still new compared to equity and
many other markets.

A trader equipped with knowledge would be able to trade with proper strategies and can create
wealth for himself along with helping the market to grow on a sustained basis.

There are certain set of challenges where commodity exchanges require regulatory amendments
to make this market vibrant and some other set of challenges, where commodity exchanges have
to take up the initiatives.

Amendment in FCRA Act

According to the FCRA Act (1952) definition of goods is confined to whatever is deliverable.
Due to this stringent definition, commodity exchanges are unable to deliver two important
products:

Weather derivatives, which will provide hedge on volumetric risk to the farmers who are
exposed to the vagaries of monsoon and other climatic disturbances. Farm insurance, though
seen in some pockets of the country is still not all-pervasive and weather derivatives could fill in
this lacuna for the farmers.?

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Trading on index, which will give small investors a diversified investment option that can be
easily tracked with an overall knowledge of the commodity market. FCRA Act even does not
allow trading of commodity options. Unlike options, futures are not able to give the upside price
advantage to an investor, but act as a good tool for hedging and covering up downward risk.
This constraint is a big challenge for a derivative exchange, as lot of investors, especially
farmers, are reluctant to enter this market due to the unavailability of options.

Amendment in Banking Regulations Act

According to the Banking Regulations Act, banks are not allowed to trade in the commodity
derivatives. But contradictorily, banks have a big role to play in the development of the
commodity market. As they have exposure to agriculture, they would be better off in case they
were able to hedge their positions. Since banks have a strong rural reach and financial expertise,
they can become aggregators and take an aggregative position on behalf of farmers.

Issues on Warehouse Receipts

Currently, WR is not an instrument, against which banks lend comfortably. There are number of
risks associated with it. Some of them are like fraud WR, credit risk with the warehouse owner,
financial strength of the warehouse, quality of the warehouse and of course the credibility of the
goods valuation.

Mutual Funds and FIIs are to be allowed to trade on commodity exchanges

For commodity markets to pick up, retail participation is essential as this has been the
experiences of most western countries which have witnessed a boom in such business. The
commodity derivatives market is still distant for retail investors who have neither the knowledge
nor the ability to take such decisions in the commodity space. Unlike the financial derivatives
market, one can enter the commodity derivatives market with a much lower investment, since
margins are lower in the range of 5-10% compared to around 30% in the securities markets. But

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this highly leveraged market still remains out of the purview of the retail investor due to certain
institutional reasons. A break can be achieved here in case mutual funds are allowed to
participate in these markets by structuring commodity funds for retail investors. At the same
time this financial instrument can stir up the awareness among the masses and become an
excellent asset class and hedging tool in a retail portfolio. Unlike the stock market, commodity
market has not yet gotten the exposure it deserves.

Commodity mutual funds, equipped with qualified analysts and fund managers will undertake
value investing and boost up the reliability for the retail investors. There is a strong conviction
among mutual funds that there is need to move into commodities to diversify their portfolio and
deliver better returns to investors.

12. Bibliography:

1. NCFM Commodities Market Module 2010

2. www.mcxindia.com

3. www.ncdex.com
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4. http://www.cmegroup.com/company/comex.html

5. Introduction to Technical Analysis by Martin J. Pring

6. www.commodityonline.com [Accessed on June 15th 2010]

7. http://commodity-future-trading-india.blogspot.com/2010/03/union-budget-2010-2011-
engine-for.html

8. http://www.iibf.org.in/scripts/default_monthlycolumn.asp [Accessed on June 20th 2010]

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