CHAPTER 1

INTRODUCTION

1 A STUDY ON COMMODITY MARKET

INTRODUCTION

Trading on derivatives first started to protect farmers from the risk of their values against

fluctuations in the price of their crop. From the time it was sown, to the time it was ready for

harvest, farmers would face price uncertainty. Through the use of simple derivative products the

farmers can transfer their risk (i.e. fully or partially) by locking the price of their products. This was

developed to reduce the risk of the farmers. Lets take an example when a farmer who sowed his

crop in June which he would receive his harvest in September may face uncertainty in prices over

the period. Because of the oversupply, they are selling at a very low cost.

In 1848, the Chicago Board of Trade (CBOT) was established to bring farmers and merchants

together. A group of traders got together and created the `to-arrive' contract that permitted farmers

to lock in to price upfront and deliver the grain later. Today, derivative contracts exist on a variety

of commodities such as corn, pepper, cotton, wheat, silver, etc. Besides commodities, derivatives

contracts also exist on a lot of financial underlying like stocks, interest rate, exchange rate, etc.

Due to the high volatility in Financial Market with high risk & low rate of return had made

investors to choose alternate investments such as Bullion market in Commodity market. In India

gold has traditionally played a multi-faceted role. Apart from being used for armament purpose, it

has also served as an asset of the last resort and a hedge against inflation and currency depreciation.

But most importantly, it has most often been treated as an investment.

Many people have become very rich in commodity markets. It is one of the areas where people can

make extraordinary profits within a short span of time.

2 A STUDY ON COMMODITY MARKET

Definition of Derivatives:

A derivative is a product whose value is derived from value of one or more underlying assets or

variables in a contractual manner. The underlying asset can be equity, forex, commodity or any

other assets.

The Forwards Contracts (Regulation) Act, 1952, regulates the forward/ futures contracts in

commodities all over India. However when derivatives trading in securities was introduced in

2001, the term security in the Securities Contracts Regulation Act, 1956 (SCRA), was amended to

include derivative contracts in securities.

Products and Participants:

Derivative contracts are of different types. The most common ones are forwards, futures, options

and swaps. Participants who trade in the derivatives market can be classified as under :

1. Hedgers: Hedgers face risk associated with the price of an asset. They use the futures or

options markets to reduce or eliminate this risk.

2. Speculators: Speculators are participants who wish to bet on future movements in the

price of an asset. Futures and options contracts can give them leverage; that is, by putting in small

amounts of money upfront, they can take large positions on the market. As a result of this leveraged

speculative position, they increase the potential for large gains as well as large losses.

3. Arbitragers: Arbitragers work at making profits by taking advantage of discrepancy

between prices of the same product across different markets.

3 A STUDY ON COMMODITY MARKET

 Geojit BNP Paribas Financial Service was founded by Mr. C.J. George and Mr. Ranajit

Kanjilal as a partnership firm in the year 1987. And in the year 1993 Mr. Ranajit Kanjilal

retired from the firm and Geojit became a proprietary concern of Mr. C.J. George. It

became a Public limited company by the name Geojit Securities Ltd. in the year 1994.

The Kerala State Industrial Development Corporation Ltd (KSIDC) Became a Co-promoter

of Geojit by taking 24% stake in the company in the year 1995. Geojit listed at The Stock

Exchange, Mumbai (BSE) in the year 2000. In 2003 the Company was renamed as Geojit

Financial Services Ltd. (GFSL). In July 2005, the company is also got listed at The National

Stock Exchange (NSE).

Geojit is a charter member of the Financial Planning Standards Board of India and is one of

the largest Depository Participant(DP) brokers in the country. On March 13, 2007 the

formation of Geojit BNP Paribas Financial Services Ltd., was announced in Mumbai and

Paris. Through a preferential allotment, BNP Paribas had taken 27% stake in Geojit, which

will eventually increase to 34.35%.

 BNP Paribas has one of the largest international banking networks with significant

presence in Asia and the United States. With presence in more than 85 countries the bank

has a headcount of more than 138000. With this take over Geojit has become Geojit BNP

Paribas Financial Services LTD in April 2009. Currently Geojit BNP Paribas has more

than 500 branches, 4.7 lakhs clients and offers services in Equities, Futures and Options,

Mutual Funds, Life and General Insurance, Portfolio Management services, Loan against

shares.

The online trading was first introduced by the Geojit BNP Paribas to their clients that allows

the customers to track the markets by setting up their own market watch, receiving research

tips, stock alerts, real-time charts and news and many more features enable the customer to

take informed decisions.

OBJECTIVES OF THE STUDY

This project has been prepared with the aim to achieve the following objectives:

T o study and analyze the growth and the emerging trends in Commodity Market.

To get an idea about the different commodities traded in the market.

Overview of the Commodity market along with the different trading market.

To analyze the different factors that led the emerge of such market.

To study the development that has taken place in the recent past.

To study major two metals gold and silver trading in the market.

The government plan and support towards the growth of the market.

RESEARCH METHODOLOGY

The methodology adopted in conducting the study:

The data has been collected for the year period F.Y. 2013-14, 2012-13, 2011-12 and 2010-11
as it would reflect a true and fair picture as at today and it would show a true and fare picture
 of the growth of the industry while comparing with the past data.

The data required for the study has been collected from secondary sources i.e. by the articles
published over the internet, magazines and journals.

The data basically consists of gold and silver study in the commodity market. The metals are
selected on random sampling basis which constitute the major share of the market and thus
showing the true and fair picture as a whole.

Various statistical data and trends have been depicted with the help of graphical
representations like bar chart, line chart and tabular representation of data etc. to give a better
interpretation.

LIMITATIONS OF THE STUDY

The limitations faced in conducting the study:

The suggestion is based on the study on Fundamental and Technical Analysis such as price
movement, Relationship of gold with other factors, Volumes and Open Interest (OI). It
 may well be noted that the same analysis could have been done using a different statistical
tool and yielded different result.

This analysis will be holding good for a limited time period that is based on present
scenario and study conducted, future movement on gold price may or may not be similar.

The study on this topic could be done by considering more commodities with the help of
primary data collection source. Also the research does not mention about the effect of growth
of commodity market on the economy of India as a whole.

Faced problem in downloading the required documents from the MCX site as the site is
under improvement.

Lack of speed internet accessibility due to which the files have taken ample time to
download.

SPOT VERSUS FORWARD TRANSACTION

Every transaction has three components like trading, clearing and settlement. A buyer and

seller come together, negotiate and arrive at a price this is trading. Clearing involves finding

out the net outstanding, that is exactly how much of goods and money the two should

exchange.

In a spot transaction, the trading, clearing and settlement happens immediately, i.e. on the

spot. For example, On 1 March 2013, Rahul wants to buy some gold. The goldsmith quotes

Rs.25000 per 10 grams. They agree upon this price and Rahul buys 20grams of gold. He

pays Rs.50000 to the goldsmith and collects his gold. This is a spot transaction.

Now suppose Rahul does not want to buy the gold on 1 March, but wants to buy it a month

later. Then the goldsmith quotes Rs.25500 per 10 grams. They agree upon the forward
 price for 20 grams of gold that Rahul wants to buy and Rahul leaves. A month later, he pays

the goldsmith Rs.51000 and collects his gold. This is a forward contract, a contract by

which two parties permanently agree to settle a trade at a future date, for a stated price

and quantity. No money changes hands when the contract is signed. The exchange of money

and the underlying goods only happens at the future date as specified in the contract. In

a forward contract the process of trading, clearing and settlement does not happen

immediately. The trading happens today, but the clearing and settlement happens at the end of

the specified period.

A forward is the most basic derivative contract. We call it a derivative because it derives

value from the price of the asset underlying the contract, in this case gold. If on the 1st of

April, gold trades for Rs.26000 in the spot market, the contract becomes more valuable to

Rahul because it now enables him to buy gold at Rs.25500. If however, the price of gold

drops down to Rs.24500, he is worse off because as per the terms of the contract, he is

bound to pay Rs.25500 for the same gold. The contract has now lost value from Rahuls

point of view. Note that the value of the forward contract to the goldsmith varies exactly in

an opposite manner to its value for Rahul.



CHAPTER 2
HISTORY OF COMMODITY
TRADING & PRECIOUS METALS

 COMMODITY TRADING IN INDIA

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 lead to

unnecessary speculation in essential commodities, and were harmful to the healthy functioning

of the markets for the underlying commodities, and also to the farmers.

With a view to restricting speculative activity in cotton 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. The Act envisages

(imagine) three-tier regulation:

1) The Exchange which organizes forward trading in commodities can regulate trading on a

day-to-day basis,
2) The Forward Markets Commission provides regulatory oversight under the powers

delegated to it by the central Government,

3) The Central Government - Department of Consumer Affairs, Ministry of Consumer

Affairs, Food and Public Distribution - is the ultimate regulatory authority.

In 1970s and 1980s the Government relaxed forward trading rules for some commodities.


THE KABRA COMMITTEE REPORT


After the introduction of economic reforms since June 1991 and the consequent gradual

trade and industry liberalisation in both the domestic and external sectors, the

Government of India appointed in June 1993 a committee on Forward Markets under

chairmanship of Prof. K.N. Kabra.

The committee was setup with the following objectives:

1) To assess the working of the commodity exchanges and their trading practices in India to

make suitable recommendations with a view to making them compatible with those of

other countries
2) To review the role that forward trading has played in the Indian commodity markets during

the last 10 years.

3) To examine the extent to which forward trading has special role to play in promoting

exports.
4) To suggest measures to ensure that forward trading in the commodities in which it is

allowed to be operative remains constructive and helps in maintaining prices within

reasonable limits.

The committee submitted its report in September 1994. The recommendations of the

Committee
were as follows:

The Forward Markets Commission (FMC) and the Forward Contracts (Regulation) Act,

1952, would need to be strengthened.

Due to the inadequate infrastructural facilities such as space and telecommunication

facilities, the commodities exchanges were not able to function effectively. Enlisting more

members, ensuring capital adequacy norms and encouraging computerisation would

enable these exchanges to place themselves on a better footing.

In-built devices in commodity exchanges such as the vigilance committee and the panels of

surveyors and arbitrators are strengthened further.

The FMC which regulates forward/ futures trading in the country should continue to act as a
 watchdog and continue to monitor the activities and operations of the commodity

exchanges. Amendments to the rules, regulations and bye-laws of the commodity

exchanges should require the approval of the FMC only.

All the exchanges have been set up under overall control of Forward Market Commission

(FMC) of Government of India.


FORWARD MARKET COMMISSION

Forward Markets Commission (FMC) headquartered at Mumbai, is a regulatory authority

which is overseen by the Ministry of Consumer Affairs and Public Distribution, Govt. of India.

It is a statutory body set up in 1953 under the Forward Contracts (Regulation) Act, 1952.

The functions of the Forward Markets Commission are as
follows:

1) To advise the Central Government in respect of the recognition or the withdrawal of

recognition from any association or in respect of any other matter arising out of the

administration of the Forward Contracts (Regulation) Act 1952.

2) To keep forward markets under observation and to take such action in relation to them,

as it may consider necessary, in exercise of the powers assigned to it by or under the Act.
3) To collect and whenever the Commission thinks it necessary, to publish information

regarding the trading conditions in respect of goods to which any of the provisions of the

act is made applicable, including information regarding supply, demand and prices, and

to submit to the Central Government, periodical reports on the working of forward

markets relating to such goods;

4) To make recommendations generally with a view to improving the organization and

working of forward markets;

5) To undertake the inspection of the accounts and other documents of any recognized

association or registered association or any member of such association whenever it

considerers it necessary.

COMMODITY EXCHANGES IN INDIA

The two important commodity exchanges in India are Multi- Commodity Exchange of
 India Limited (MCX), and National Multi-Commodity & Derivatives Exchange of India

Limited (NCDEX).

I. Multi-Commodity Exchange of India Limited (MCX)

MCX an independent multi-commodity exchange has permanent recognition from

Government of India for facilitating online trading, clearing and settlement operations for

commodity futures markets across the country. Key shareholders of MCX are Financial

Technologies (India) Ltd., State Bank of India, NABARD, NSE, HDFC Bank, State Bank of

Indore, State Bank of Hyderabad, State Bank of Saurashtra, SBI Life Insurance Co. Ltd., Union

Bank of India, Bank Of India, Bank Of Baroda, Canara Bank, Corporation Bank. Headquartered

in Mumbai, MCX is led by an expert management team with deep domain knowledge of the

commodity futures markets. Through the integration of dedicated resources, robust technology

and scalable infrastructure, since inception MCX has recorded many first to its credit.

Inaugurated in November 2003 by Shri Mukesh Ambani, Chairman & Managing Director,

Reliance Industries Ltd, MCX offers futures trading in the following commodity

categories: Agri Commodities, Bullion, Metals- Ferrous & Non-ferrous, Pulses, Oils & Oilseeds,

Energy, Plantations, Spices and other soft commodities. MCX has built strategic alliances with

some of the largest players in commodities eco-system, namely, Bombay Bullion Association,

Bombay Metal Exchange, Solvent Extractors' Association of India, Pulses Importers Association,

Shetkari Sanghatana, United Planters Association of India and India Pepper and Spice Trade

Association.

Today MCX is offering spectacular growth opportunities and advantages to a large cross

section of the participants including Producers / Processors, Traders, Corporate, Regional

Trading Centres, Importers, Exporters, Cooperatives, Industry Associations, amongst others

 MCX being nation-wide commodity exchange, offering multiple commodities for

trading with wide reach and penetration and robust infrastructure, is well placed to tap this vast

potential.


Active Contracts Traded in MCX
S.NO COMMODITIY Price/Unit Trading Lot Delivery
Center Multiplier Initial

GOLD Rs / 1 KG MUMBAI 1 NAME

1 10G 00 4
GOLDM ms 100G M
Rs / ms 10
GOLD 10G 8Gms UMBAI 4
2 GUINEA ms 1
SILVER Rs/ 30 KG MUMBAI 4
SILVERM 8Gms 5 KGS /
MENTHA OIL 360 AHMEDABAD 3
3 KAPASIA R 10 MT AHMEDABAD 2 5
ALUMINIUM S/ KG 5 MT AHMEDABAD 500
COPPER Rs / 1 KG 1 MT CHANDAUSI 100 5
NICKEL Rs/KG 250 AKOLA 2 1
ZINC Rs/50 KG 5000 MUMBAI 500 0
4 LIGHT SWEET Rs/KG 100/B MUMBAI 1 5
CRUDE OIL Rs/KG arrel MUMBAI 00
5 NATURAL 1250/ 125
RS/KG MUMBAI 5

II. National Commodity & Derivatives Exchange Limited (NCDEX)

National Commodity & Derivatives Exchange Limited (NCDEX) is a professionally

managed online multi commodity exchange promoted by ICICI Bank Limited (ICICI Bank),

Life Insurance Corporation of India (LIC), National Bank for Agriculture and Rural

Development (NABARD) and National Stock Exchange of India Limited (NSE). Punjab

National Bank (PNB), CRISIL Limited (formerly the Credit Rating Information Services of India

Limited), Indian Farmers Fertiliser Cooperative Limited (IFFCO) and Canara Bank by

subscribing to the equity shares have joined the initial promoters as shareholders of the

Exchange. NCDEX is the only commodity exchange in the country promoted by national level

institutions. This unique parentage enables it to offer a bouquet of benefits, which are currently

in short supply in the commodity markets. The institutional promoters of NCDEX are prominent

players in their respective fields and bring with them institutional building experience, trust,

nationwide reach, technology and risk management skills.

NCDEX is a public limited company incorporated on April 23, 2003 under the
Companies Act,

1956. It obtained its Certificate for Commencement of Business on May 9, 2003.

It has commenced its operations on December 15, 2003.

NCDEX is a national-level, technology driven de-mutualized on-line commodity exchange

with an independent Board of Directors and professionals 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.

NCDEX is regulated by Forward Market Commission in respect of futures trading in

commodities. Besides, NCDEX is subjected to various laws of the land like the Companies

Act, Stamp Act, Contracts Act, Forward Commission (Regulation) Act and various other

legislations, which impinge on its working. NCDEX is located in Mumbai and offers facilities to

its members in more than 390 centres throughout India. The reach will gradually be expanded to

more centres. NCDEX currently facilitates trading of thirty six commodities - Cashew, Castor

Seed, Chana, Chilli, Coffee, Cotton, Cotton Seed Oilcake, Crude Palm Oil, Expeller Mustard

Oil, Gold, Guar gum, Guar Seeds, Gur, Jeera, Jute sacking bags, Mild Steel Ingot, Mulberry

Green Cocoons, Pepper, Rapeseed - Mustard Seed ,Raw Jute, RBD Palmolein, Refined Soy Oil,

Rice, Rubber, Sesame Seeds, Silk, Silver, Soy Bean, Sugar, Tur, Turmeric, Urad (Black

Matpe), Wheat, Yellow Peas, Yellow Red Maize & Yellow Soybean Meal. At subsequent

phases trading in more commodities would be facilitated.

Since 2002 when the first national level commodity derivatives exchange started, the

exchanges have conducted brisk business in commodities futures trading. In the last three

years, there has been a great revival of the commodities futures trading in India, both in terms of

the number of commodities allowed for futures trading as well as the value of trading. While in

year 2000, futures trading were allowed in only 8 commodities, the number jumped to 80

commodities in June 2004. The value of trading in local currency saw a quantum jump from

about INR 350 billion in 2001-02 to INR 1.3 Trillion in 2003-04. The data in the below Table

indicates that the value of commodity derivatives in India have crossed the US$ 1 Trillion mark

in 2006.

The market regulator Forward Markets Commission (FMC) disseminates fortnightly

trading data for each of the 3 national & 21 regional exchanges that have been set up in recent

years to carry on the futures trading in commodities in the country. Exhibit presents comparative

trading data for three fortnightly periods in March, June and September 2005 and brings up some

interesting facts.





COMPARATIVE DATA FOR THREE PERIODS
VALUE OF TURNOVER IN USD MILLIONS

16 16 16
S Name of the
Mar 05 Jun 05 Sep 05
l.No. Exchange

Multi-Commodity to$m
31 to$m
30 to $m
30
Exchange of India Limited,
1 Mumbai.
3,503.69 4,974.76 11,042.25
National Multi- $m $m
Commodity $m 106.85
2 135.64 113.13
Exchange of India
Ahmadabad.
National $m $m $m
3 Commodity & 5,360.45 7,950.49 10,694.29
Derivatives

Exchange Limited,
Total of three $m $m $m
exchanges 8,999.78 13038.38 21,843.39

























ACTIVE CONTRACTS TRADED IN NCDEX

S.NO COMMODITIY Price/Unit Trading Delivery
Multiplier Initial Margin
1 PURE KILO Rs /NAME
1 KG Lot
MUMBA 1 Center %
GOLD 10Gms I 00 4
PURE SILVER 30
2 Rs DE

KGS 30
SILVER 5 (mini 5 KG 6.1
3Lot) / 1 KG Rs LHI 5

GOLD 100 (mini 100
Lot) / 1 KG Gms DELHI 10 9
4 JEERA 3 MT
Rs / MUMBAI 30

6 PEPPE Rs / 1 MT KOCHI 10


R Quintal 1
7 TURMERIC 10
NIZ 1 0
FINGERS MT 00
CHILLI LCA 334 5 5 6
MT 0 .15
MAIZE 50 5
MT 00

5.8





History of Gold

In India Gold is having a history of more than 7000 years which can find in religious

book of Hindu, where it is considered as a metal of immense value. But

looking at the history of world, gold is found at the Egypt at 2000B.C,

which is the first metal used by the human values for ornaments and

rituals. Gold has long been considered one of the most precious metals,

and its value has been used as the standard for many currencies in

history. Gold has been used as a symbol for purity, value, royalty, and

particularly roles that combine these properties.

 As a tangible investment, gold is held as a part of portfolios by the countries as

reserves because over the long period gold has an extensive history of maintaining its value.

However, gold does become particularly desirable in times of extremely weak confidence

and during hyperinflation because gold maintains its value even as fiat money becomes

worthless when the value of currency depreciates.

It has a special role in India and in certain countries, gold Jewellery is worn for

ornamental value on all social functions, festivals and celebrations. It is the popular

form of investment in rural areas between the farmers after having bumper crop or

after harvestin. All these factors makes India the largest consumer (18.7% of world total

demand in 2012) and importer of gold due to its low production, which is

negligible, and untapped gold reserves. This is due to lack of new technology in

finding gold reserves and low interest shown by government in financing,

encouraging for exploration programs in gold mines.

HISTORY OF GOLD
TRADING

Gold future trading debuted first at Winnipeg Commodity Exchange (know Comex) in

Canada in 1972. The gold contract gain popularity among traders, led to many countries, had

too started gold future trading which include London gold future, Sydney future exchange,

Singapore International Monetary Exchange (Simex), Tokyo Commodity Exchange

(Tocom), Chicago Mercantile Exchange, Chicago Board of Trade (CBOT), Shanghai Gold

Exchange, Dubai Gold and Commodity Exchange are some of the world Top recognized

exchange, and in India, National Commodity and Derivative Exchange (NCDEX) and
Multi-Commodity Exchange (MCX), and National Board of Trade (NBOT) are some Indian

exchanges where Gold are traded. History of gold trading in India is dated back to 1948 with

Bombay Bullion Association, which was formed by a group of Merchants.

PRODUCTION OF
GOLD

Till now the total gold extracted from the mines is about $1 trillion dollar,

which if accumulated in physical form is enough to built Eiffel tower. Annual gold production

worldwide is about US$35 billion and by far the one of the largest-trading world commodity.

Worldwide, gold mines produced about 2,600 metric tons in the year 2011.

Gold is mined in more than 118 countries around the world, with the large number of

development projects in these countries expected to keep production growing well into the

next century. Currently, South Africa is the largest gold producing country, followed by the

United States, Australia, Canada, Indonesia, Russia and others. Some of these countries also

account for highest gold reserves from potential 51,000 tonnes of world-wide reserves.

Why central banks
hold gold

Monetary authorities have long held gold in their reserves. Today their stocks amount
to some

30,000 tonnes - similar to their holdings 60 years ago. It is sometimes suggested that

maintaining such holdings is inefficient in comparison to foreign exchange. However, there are

good reasons for countries continuing to hold gold as part of their reserves. These are

recognized by central banks themselves although different central banks would emphasize

different factors.


Diversification

In any asset portfolio, it rarely makes sense to have all your eggs in one basket.

Obviously the price of gold can fluctuate - but so too do the exchange and interest rates of

currencies held in reserves. A strategy of reserve diversification will normally provide a less

volatile return than one based on a single asset.

Gold has good diversification properties in a currency portfolio. These stem from the fact

that its value is determined by supply and demand in the world gold markets, whereas

currencies and government securities depend on government promises and the variations in

central banks monetary policies. The price of gold therefore behaves in a completely different

way from the prices of currencies or the exchange rates between currencies.

Physical Security

Countries have in the past imposed exchange controls or, at the worst, total asset

freezes. Reserves held in the form of foreign securities are vulnerable to such measures.

Where appropriately located, gold is much less vulnerable. Reserves are for using when you

need to. Total and incontrovertible liquidity is therefore essential. Gold provides this.



Unexpected needs

 If there is one thing of which we can be certain, it is that todays status quo will not last

forever. Economic developments both at home and in the rest of the world can upset countries

plans, while global shocks can affect the whole international monetary system.

Owning gold is thus an option against an unknown future. It provides a form of insurance

against some improbable but, if it occurs, highly damaging event. Such events might include

war, an unexpected surge in inflation, a generalised crisis leading to repudiation of foreign

debts by major sovereign borrowers, a regression to a world of currency or trading blocs or the

international isolation of a country. In emergencies countries may need liquid resources. Gold

is liquid and is universally acceptable as a means of payment. It can also serve as collateral for

borrowing.

Confidence

The public takes confidence from knowing that its Government holds gold - an

indestructible asset and one not prone to the inflationary worries overhanging paper money.

Some countries give explicit recognition to its support for the domestic currency. And rating

agencies will take comfort from the presence of gold in a country's reserves.

The IMF's Executive Board, representing the world's governments, has recognized that the

Fund's own holdings of gold give a "fundamental strength" to its balance sheet. The same applies

to gold held on the balance sheet of a central bank.

Income

Gold is sometimes described as a non income-earning asset. This is untrue. There is a

gold lending market and gold can also be traded to generate profits. There may be an

"opportunity cost" of holding gold but, in a world of low interest rates, this is less than is often

thought. The other advantages of gold may well offset any such costs.

Insurance

The opportunity cost of holding gold may be viewed as comparable to an insurance

premium. It is the price deliberately paid to provide protection against a highly improbable but

highly damaging event. Such an event might be war, an unexpected surge of inflation, a

generalized debt crisis involving the repudiation of foreign debts by major sovereign borrowers,

a regression to a world of currency and trading blocs, or the international isolation of a country.

History of Silver Market

Major markets like the London market (London Bullion Market Association), which

started trading in the 17th century provide a vehicle for trade in silver on a spot basis, or on a

forward basis. The London market has a fix which offers the chance to buy or sell silver at a

single price. The fix begins at 12:15 p.m. and is a balancing exercise; the price is fixed at the

point at which all the members of the fixing can balance their own, plus clients, buying and

selling orders.


Trading in silver futures resumed at the Comex in New York in 1963, after a gap of 30

years. The London Metal Exchange and the Chicago Board of Trade introduced futures trading

in silver in 1968 and 1969, respectively. In the United States, the silver futures market

functions under the surveillance of an official body, the Commodity Futures Trading

Commission (CFTC). Although London remains the true center of the physical silver trade for

most of the world, the most significant paper contracts trading market for silver in the United

States is the COMEX division of the New York Mercantile Exchange. Spot prices for silver are

determined by levels prevailing at the COMEX. Although there is no American equivalent to the

London fix, Handy & Harman, a precious metals company, publishes a price for 99.9% pure

silver at noon each working day.

Production of Silver

Silver ore is most often found in combination with other elements, and silver has been

mined and treasured longer than any of the other precious metals. Mexico is the worlds

leading producer of silver, followed by Peru, Canada, the United States, and Australia. The

main consumer countries for silver are the United States, which is the worlds largest

consumer of silver, followed by Canada, Mexico, the United Kingdom, France, Germany,

Italy, Japan and India. The main factors affecting these countries demand for silver are macro

economic factors such as GDP growth, industrial production, income levels, and a whole host

of other financial macroeconomic indicators.

CHAPTER 3
PRICING COMMODITY FUTURES

PRICING COMMODITY FUTURES

The process of arriving a figure at which a person buys and another sells a futures contract

for a specific expiration date is called price discovery. The process of price discovery

continues from the market's opening until its close and also free flow of information is also very

important in an active future market. Futures exchanges act as a focal point for the collection and

distribution of statistics on supplies, transportation, storage, purchases, exports, imports,

currency values, interest rates and other relevant formation. As a result of this free flow of

information, the market determines the best estimate of today and tomorrow's prices and it is

considered to be the accurate reflection of the supply and demand for the underlying commodity.

Price discovery facilitates this free flow of information, which is essential to the effective

functioning of futures market.

We try to understand the pricing of commodity futures contracts and look at how the

futures price is related to the spot price of the underlying asset. We study the cost - of - carry

model to understand the dynamics of pricing that constitute the estimation of fair value of

futures.

INVESTMENT ASSETS VERSUS CONSUMPTION ASSETS

When we are studying futures contracts, it is essential to distinguish between investment

assets and consumption assets. An investment asset is an asset that is held for investment

purposes by most investors. Stocks, bonds, Gold and silver are examples of investment

assets. However investment assets do not always have to be held entirely for investment. As we
saw earlier silver for example, have a number of industrial uses. However to classify as

investment assets, these assets have to satisfy the requirement that they are held by a large

number of investors solely for investment. A consumption asset is an asset that is held

primarily for consumption. It is not usually held for investment. Examples of consumption

assets are commodities such as copper, oil, and pork bellies.

We can use arbitrage arguments to determine the futures prices of an investment asset

from its spot price and other observable market variables. For pricing consumption assets, we

need to review the arbitrage arguments a little differently. We look at the cost of carry

model and try to understand the pricing of futures contracts on investment assets.

THE COST OF CARRY MODEL

For pricing purposes we treat the forward and the futures market 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 i.e, Marked-to-Market. 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. The basis for the

cost of carry model where the price of the futures contract is defined as:

F= .. Eq
(1)
S+

C
Where


F = Future Price C = Holding or Carrying Cost S= Spot Price




The fair value of future contracts can also be expressed as:

F=S .. Eq
(2)

(1+r )
t

Where:

r = percentage cost of financing

t = time till expiration

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

that what is Spot price and what are future price. We should know that what are the

components of the holding cost? The components of holding cost vary with contracts on

different assets.

Sometimes holding cost may even be negative. In case of commodity futures, the holding

cost is the cost of financing plus cost of storage and insurance purchased. In case of equity

futures, the holding cost is the cost of financing minus the dividends returns.

Equation (2) uses the concept of discrete compounding, i.e. where interest rates are

compounded at discrete intervals like annually or semiannually. Pricing of options and other

complex derivative securities requires the use of continuously compounded interest rates. Most

books on derivatives use continuous compounding for pricing futures too. When we use
 continuous compounding, equation (2) is
expressed as:

F=S .. Eq
(3)
rT
e

W
here:

ing continuously cor = Cost of financing

(Us mpounding interest rate)

T = Time till expiration

e = 2.71828

Let us take an example of a future contract on commodity and we work out the price of

the contract. Let the spot price of gold Rs. 2976010gms. If the cost of financing is 15%

annually, then what should be the future price of 10gms of gold one month later? Let us

assume that we are on 1 Jan 2013. How would we compute the price of gold future contract

expiring on 30 January? Let us first try to work out the components of cost of carry model.

1. What is the spot price of gold?

The spot price of gold,
S = 29760/ 10gms


2. What is the cost of financing for month?


e0.15 30/365


3. What are the holding costs?

Let us assume that the storage cost = 0

0.15 30/365
F = S erT = 29760 e = 30129.18

If the contract was for a three months period i.e. expiring on 30th March, the

cost of financing would increase the futures price. Therefore, the futures price would be F =

0.15 90/365
29760 e = Rs.30881.32

PRICING FUTURES CONTRACTS ON INVESTMENT COMMODITIES

In the example above we saw how a futures contract on gold could be raised using cost

of carry model. In the example we considered, the gold contract was for 10 grams of gold,

hence we ignored the storage costs. However, if the one month contract was for a 100kgs of

gold instead of 10gms, then it would involve non-zero holding costs which would include

storage and insurance costs. The price of the futures contract would then be Rs.14281.58 plus

the holding costs.

NCDEX indicative
warehouse charges

Commodity Fixed charges Warehouse charges
per unit per week

Gold (Rs.)
310 55 per kg
Silver 610 1 per kg
Soy Bean 110 13 per MT
Soya oil 110 30 per MT
 Mustard seed 110 18 per MT
Mustard oil 110 42 per MT
RBD palmolein 110 26 per MT
CPO 110 25 per MT
Cotton - Long 110 6 per Bale
Cotton - Medium 110 6 per Bale

The above table gives the indicative warehouse charges for qualified warehouses that will

function as delivery centers for contracts that trade on the NCDEX. Warehouse charges include a

fixed charge per deposit of commodity into the warehouse, and as per unit per week charge. Per

unit charges include storage costs and insurance charges. We saw that in the absence of storage

costs, the futures price of a commodity that is an investment asset is given by F = S erT . Storage

Costs add to the cost of carry. If U is the present value of all the storage costs that will be

incurred during the life of a futures contract, it follows that the futures price will be equal to

F= .. Eq
(4)
(S+U)

erT
Where:

r = Cost of financing

(annualized) T = Time till

expiration

U = Present value of all storage costs

For understanding the above formula let us consider a one year future contract of gold.

Suppose the fixed charge is Rs.310 per deposit up to 500kgs and the variable storage costs are
 Rs.55 per week, it costs Rs.3170 to store one kg of gold for a year (52 weeks). Assume that the

payment is made at the beginning of the year. Assume further that the spot gold price is

Rs.29760 per 10 grams and the risk free rate is 7% per annum. What would the price of one

year gold futures be if the delivery unit is one kg?

F = (S+U)
rT
e

= (2976000 + 310 + 2860) e0.07 1
= 2976000 e0.07
1

= 2976000 1.072508

=3191783.8




We see that the one year futures price of a kg of gold would be Rs.3191783.8. The one

year futures price for 10 grams of gold would be about Rs.31917.84.

Now let us consider a three month futures contract on gold. We make the same

assumptions that the fixed charge is Rs.310 per deposit up to 500kgs, and the variable storage

costs are Rs.55 per week. It costs Rs.1025 to store one kg of gold for three months (13 weeks).

Assume that the storage costs are paid at the time of deposit. Assume further that the spot gold

price is Rs 29760 per 10 grams and the risk free rate is 7% per annum. What would the price of

three month gold futures if the delivery unit is one kg?





F = (S+U) erT

= (2976000 + 310 + 715) e0.07 0.25

= 2977025 1.017654

= 3029581.4


We see that the three month futures price of a kg of gold would be Rs.3029581.4. The
three

month futures price for 10 grams of gold would be about Rs.30295.8

PRICING FUTURES CONTRACTS ON CONSUMPTION COMMODITIES


We used the arbitrage argument to price futures on investment commodities. For

commodities that are consumption commodities rather than investment assets, the arbitrage

arguments used to determine futures prices need to be reviewed carefully. Suppose we have

F> .. Eq
(5)
(S+U)
erT

To take advantage of this opportunity, an arbitrager can implement the following

strategy:

I. Borrow an amount S + U. at the risk free interest rate and use it to purchase one

unit of the commodity.

II. Short a forward contract on one unit of the commodity.

If we regard the futures contract as a forward contract, this strategy leads to a profit of F -
 (S+U)erT at the expiration of the futures contract. As arbitragers exploit this opportunity, the spot

price will increase and the futures price will decrease until Equation (5) does not hold good.

Suppose next that

F< .. Eq
(6)
(S+U)
erT

In case of investment assets such as gold and silver, many investors hold the commodity

purely for investment. When they observe the inequality in equation 6, they will find it

profitable to trade in the following manner:

I. Sell the commodity, save the storage costs, and invest the proceeds at the risk free interest rate.
II. Take a long position in a forward contract.

This would result in a profit at maturity of (S+U) erT F relative to the position that the

investors would have been in had they held the underlying commodity. As arbitragers

exploit this opportunity, the spot price will decrease and the futures price will increase until

equation 6 does not hold well. This means that for investment assets, equation 4 holds good.

However, for commodities like cotton or wheat that are held for consumption purpose, this

argument cannot be used. Individuals and companies, who keep such a commodity in inventory,

do so, because of its consumption value not because of its value as an investment. They are

reluctant to sell these commodities and buy forward or futures contracts because these contracts
cannot be consumed. Therefore, there is unlikely to be arbitrage when equation 6 holds

good. In short, for a consumption commodity ,therefore,

F .. Eq
(7)
(S+U)

erT

That is the futures price is less than or equal to the spot price plus the cost of carry.

CHAPTER 4

 CLEARING, SETTLEMENT AND
RISK MANAGEMENT

CLEARING, SETTLEMENT AND RISK MANAGEMENT

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. National Securities Clearing Corporation Limited (NSCCL) undertakes clearing of

trades executed on the NCDEX. The settlement guarantee fund is maintained and managed by

NCDEX.

1. CLEARING


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. It

guarantees the performance of the parties to each transaction.

Typically it 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.
The clearing house has a number of members, who are mostly financial institutions

responsible for the clearing and settlement of commodities traded on the exchange. The margin

accounts for the clearing house members are adjusted for gains and losses at the end of each day

(in the same way as the individual traders keep margin accounts with the broker). On the

NCDEX, in the case of clearing house members only the original margin is required (and not

maintenance margin), Every day the account balance for each contract must be maintained at

an amount equal to the original margin times the number of contracts outstanding. Thus

depending on a day's transactions and price movement, the members either need to add funds

or can withdraw funds from their margin accounts at the end of the day. The brokers who are

not the clearing members

need to maintain a margin account with the clearing house member through whom they

trade in the clearing house.



1.1 Clearing banks

NCDEX has designated clearing banks through whom funds to be paid and / or to be

received must be settled. Every clearing member is required to maintain and operate a clearing

account with any one of the designated clearing bank branches. The clearing account is to be

used exclusively for clearing operations i.e., for settling funds and other obligations to

NCDEX including payments of margins and penal charges. A clearing member can deposit

funds into this account, but can withdraw funds from this account only in his self-name. A

clearing member having funds obligation to pay is required to have clear balance in his

clearing account on or before the stipulated pay in day and the stipulated time. Clearing

members must authorize their clearing bank to access their clearing account for debiting and

crediting their accounts as per the instructions of NCDEX, reporting of balances and other

operations as may be required by NCDEX from time to time. The clearing bank will debit/

credit the clearing account of clearing members as per instructions received from NCDEX. The

following banks have been designated as clearing banks- ICICI Bank Limited, Canarabank,

UTI Bank Limited and HDFC Bank ltd.

1.2 Depository Participants

Every clearing member is required To maintain and operate a

CM pool account with any one of the empanelled depository participants. The CM pool

account is to be used exclusively for clearing operations i.e., for effecting and receiving

deliveries from NCDEX.

2. SETTLEMENT

 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.

On the NCDEX, daily MTM settlement and final MTM settlement in respect of admitted

deals in futures contracts are cash settled by debiting/ crediting the clearing accounts of CMs

with the respective clearing bank. All positions of a CM, either brought forward created during

the day or closed out during the day, are marked to market at the daily settlement price or

the final settlement price at the close of trading hours on a day.

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.

2.1 Settlement Methods: Settlement of futures contracts on

the NCDEX can be done in three ways. By physical delivery of the underlying asset, by closing

out open positions and by cash settlement. We shall look at each of these in some detail. On

the NCDEX all contracts settling in cash are settled on the following day after the contract

expiry date. All contracts materialising into deliveries are settled in a period 2.7 days after

expiry. The exact settlement day for each commodity is specified by the exchange.


When a contract comes to settlement, the exchange provides alternatives like delivery

place, month and quality specifications. Trading period, delivery date etc. are all defined as per

the settlement calendar. A member is bound to provide delivery information. If he fails to give

information, it is closed out with penalty as decided by the exchange. A member can choose an

alternative mode of settlement by providing counter party clearing member and constituent.

The exchange is however not responsible for, nor guarantees settlement of such deals. The

settlement price is calculated and notified by the exchange. The delivery place is very important

for commodities with significant transportation costs. The exchange also specifies the accurate

period (date and time) during which the delivery can be made.




Closing out by offsetting positions


Most of the contracts are settled by closing out open positions. In closing out, the

opposite transaction is effected to close out the original futures position. A buy contract is

closed out by a sale and a sale contract is closed out by a buy. For example, an investor who took

a long position in two gold futures contracts on the January 30, 2013 at Rs.3 00 80 can close

his position by selling two gold futures contracts on February 27, 2004 at Rs.30881. In this

case, over the period of holding the position, he has gained an amount of Rs.801 per unit. This

loss would have been debited from his margin account over the holding period by way of MTM

at the end of each day, and finally at the price that he closes his position, that is Rs. 30881 in this

case.

Cash settlement
 Contracts held till the last day of trading can be cash settled. When a contract is settled in

cash, it is settlement price on the last trading day is set equal to the closing spot price of the

underlying asset ensuring the convergence of future prices and the spot prices. For

example an investor took a short position in five long staple cotton futures contracts on

December 15 at Rs.6950. On 20th February, the last trading day of the contract, the spot price

of long staple cotton is Rs.6725. This is the settlement price for his contract. As a holder of a

short position on cotton, he does not have to actually deliver the underlying cotton, but simply

takes away the profit of Rs.225 per trading unit of cotton in the form of cash.marked to the

market at the end of the last trading day and all positions are declared closed.







Risk management


NCDEX has developed a comprehensive risk containment mechanism for its commodity

futures market. The salient features of risk containment mechanism are:

The financial reliability of the members is the key to risk management. Therefore, the

requirements for membership in terms of capital adequacy (net worth, security

deposits) are quite stringent.

NCDEX charges an open initial margin for all the open positions of a member. It

specifies the initial margin requirements for each futures contract on a daily basis. It

also follows value-at-risk (VAR) based margining through SPAN. The PCMs and

TCMs in turn collect the initial margin from the TCMs and their clients respectively.

The open positions of the members are marked to market based oncontract
 settlement price for each contract. The difference is settled in cash on a T+1 basis.

A member is alerted of his position to enable him to adjust his exposure or bring in

additional capital. Position violations result in withdrawal of trading facility for all

TCMs of a PCM in case of a violation by the PCM.

A separate settlement guarantee fund for this segment has been created out of the capital

of members.

CHAPTER 5

 FUNDAMENTAL AND
TECHNICAL ANALYSIS

 FUNDAMENTAL ANALYSIS

DEMAND AND CONSUMPTION OF GOLD

Gold produced from different sources and demanded for consumption in form of

Jewellery, Industrial applications, Government & Central bank Investment and Private investor,

which has been worth US$ 38 billion on average over the past five years in world.

Total of world gold produced is mostly consumed by different sectors are Jewelers 80%,

Industrial application 11.5% and rest of gold is used as investment purpose 8.5%.

Considering the situation in India, the demand for Gold consumption is far more ahead than its

availability through production, scrap or recycled gold. Where gold production in India is only

2tonnes, where demand is 18.7% of world gold consumption, which make India a leading

consumer of gold followed by Italy, Turkey, USA, China, Japan. According to Countries wise

demand, the following graph shows the demand in each country. Large part constitute by Jewelry

consumption, 68.55% increase was witnessed from the year 2009 to 2010 by Indian consumers,

who seem to spend a disproportionate percentage of their disposable income on gold and

gold jewelry.

Gold fabrication for domestic and international market, also formed large part of business

in India. Gold fabrication demand rose 1.4% in 2012 to 70.8 million ounces.
 Fabrication demand for gold accounted for 59.5% of supply in 2012; this is down from the

2005 level of 84% and reflects a drop in jewelry demand.

DEMAND FOR GOLD





GOLD CONSUMPTION IN INDIA


India consumed around 18% of world Gold produced. Even though it only contribute
1.6% of

Globa
l GDP.

The demand is much that it consumed more than 1.5 times of US consumption of gold.
Increasing by nearly 60% in 2009-2010, but during this fiscal Period, Gold imports increased

by another 58%, with Import of gold and silver account around $11 billion, consumption

increased by 88% during March09 quarter.

Uses of
Gold

1) Jewellery fabrication: The largest source of demand is the jewelry industry. In new years,

demand from the jewelry industry alone has exceeded Western mine production. This

shortfall has been bridged by supplies from reclaimed jewelry and other industrial scrap, as

well as the release of official sector reserves. Gold's workability, unique beauty, and

universal appeal make this rare precious metal the favorite of jewelers all over the world.

India is the world's foremost gold jewellery fabricator and consumer with

fabricator and consumption annually of over 600 tons according to GFMS. Measures of

consumption and fabrication are made more difficult because Indian jewellery often

involves the re-making by goldsmiths of old family ornaments into lighter or fashionable

designs and the amount of gold thus recycled is impossible to gauge. Estimates for this

recycled jewellery vary between 80 tons and 300 tons a year. GFMS estimates are that

official gold bullion imports in 2001 were 654 tons. Exports have increased dramatically

since 1996, and in 2001 stood at over 60 tons. The US accounted for about one third of

total official exports. Manufacturers located in Special Export Zones can import gold tax-

free through various registered banks under an Export Replenishment scheme.

2) Industrial applications: Besides jewelry, gold has many applications in a variety of
 industries including aerospace, medicine, electronics and dentistry. The electronics

industry needs gold for the manufacture of computers, telephones, televisions, and other

equipment. Gold's unique properties provide superior electrical conducting qualities and

corrosion resistance, which are required in the manufacture of sophisticated

electronic circuitry. In dentistry, gold alloys are popular because they are highly resistant

to corrosion and tarnish. For this reason gold alloys are used for crowns, bridges, gold

inlays, and partial debenture.

3) Governments and central banks: The third source of gold demand is governments and

central banks that buy gold to increase their official reserves. Central banks holds

28,225.4 tons, the holdings of Reserve Bank of India are only a modest 397.5 tons.

4) Private investors: Finally, there are private investors. Depending upon

marketcircumstances, the investment component of demand can vary substantially from year

to year.





























TECHNICAL ANALYSIS


Prices of the commodities in the commodity market

fluctuate daily because of the continuous buying and selling of the commodities. Prices of the

commodity prices move in trends and cycles and are never stable. An investor in the

commodity market is interested in buying commodities at a low price and sells them at a high

price, so that he can get good return on his investment. He therefore tries to analyze the

movement of the share prices in market. There are two approaches that we use to analyze the

price of the commodities. One of these is the fundamental analysis wherein the analyst tries

to determine the true worth or intrinsic value of the commodity when its market price is below

its intrinsic value. The second approach is to analyze the commodity is technical analysis. It is

an alternative approach to study the commodity price behavior.

Dow
Theory

Whatever is generally being accepted today as technical analysis has its roots in the Dow

theory. The theory is so called because it was formulated by Charles H. Dow who was the editor

of the wall street journal in U.S.A. Charles Dow formulated a hypothesis that the commodity

market does not move on a random basis but is influenced by three distinct cyclical trends that

guides its direction. According to this theory, the market has three movements and these

movements are simultaneous in nature. These movements are primary movements,

secondary reactions and minor movements.

The primary movements are a long range cycle that carries the entire market up or down.

This is the long term trend in the market. The secondary reactions act as a restraining
 force on the primary movement. These are in the opposite direction to the primary

movement and last only for a short while. These are also known as correction. For

example, when the market is moving upwards continuously, this upward movement

will be interrupted by downward movements of short durations. These are called

secondary reactions. The third movement in the market is the minor movements which

are the day to day fluctuations in the market. The three movements of the market have

been compared to the tides, the waves and the ripples in the ocean.

According to Dow theory, the prices of the commodities can be identified by the means of

a line chart. In this chart, the closing prices of the commodities may be plotted against the

corresponding trading days.The primary trend is said to have three phases in it, each of which be

interrupted by a counter move or secondary reaction which would retrace about 33 66 % of the

earlier rise or fall.

Primary trend and secondary

reactions




Bullish Trend


During a bull market (upward moving market), in the first phase the prices would advance

with the revival of confidence in the future of business. The future prospects of business in

general would be perceived to be promising. This would prompt the investors to buy the

c ommodities. During the second phase, prices would advance due to inflation and speculation.

Thus during the bull market the line chart would exhibit the formation of three peaks. Each

peak would be followed by a bottom formed by the secondary reaction. According to Dow

theory, the formation of higher bottoms and higher tops indicates a bullish trend.

Three Phases of bull

market






Bearish Trend


The bear market is also characterized by three phases. In the first phase the prices begin

to fall due to abandonment of hopes. Investors begin to sell their commodities. In the second

phase, the prices fall due to increased selling pressure. In the final phase, prices fall still further

due to distress selling.

 Three phases of the Bear Trend

Assumptions

The theory also makes certain assumptions which have been referred to as the hypothesis

of the theory. The first hypothesis states that the primary trend cannot be manipulated.

It means that no single individual or institution or group of individuals and institutions

can exert influence on major trend of the market. The second hypothesis states that averages

discount everything. The third hypothesis states that the theory is not perfect. The theory is

concerned with the trend of market and has no forecasting value as regards the duration or the

likely price targets for the peak or bottom of the bull and bear markets.

BASIC PRINCIPLES OF TECHNICAL ANALYSIS

The basic principles on which analysis is based are as follows:

The market value of the commodity is related to demand and supply factors operating in the

market.
There are both rational and irrational factors which surrounded the supply and demand

factors of a security.
Commodity prices behave in a manner that their movement is continuous in a
 particular direction for some length of time.
Trends in a commodity prices have been seen to change when there is a shift in the

demand and supply factors.

The shift in demand and supply can be detected through charts prepared specifically to show

market action.




Line Chart


It is the simplest price chart. In this chart the closing prices of the share are plotted on

the XY graph on a day to day basis. The closing price of each day would be represented by a

point on the XY graph. All these points would be concerned by straight line which would

indicate the trend of the market. A line chart is illustrated below.

Line chart of closing
prices

of Gold From 20 th to 31st

March14


Bar
Chart

It is perhaps the most popular chart used by technical analysts. In this chart the highest

price and the lowest price and the closing price of each day are plotted on a day to day

basis. A bar is formed by joining the highest price and the lowest price of a particular day by a

vertical line. The top of the bar represents the highest price and the bottom of the bar

represents the lower price and the small horizontal hash on the right of the bar is used to

represents the closing price of the day. Sometimes the opening price of the day is marked as a

hash on left side of the bar. This can be explained by taking 10 days silver prices.



10 Days Highest, Lowest and Closing
prices of Silver(In Rs.\kg) From 20th to 31st
March14



Highest price Lowest Price Closing Price

54715 54354 54363

54967 54341 54967

55071 54136 54147

54164 54125 54160

54234 53780 54234

54212 53999 53992

54099 53490 53852

54071 53550 53528

53574 53574 53574

53574 52914 53081




Bar Graph Showing Price of

Silver










Japanese Candlestick Charts


The Japanese candlestick chart shows the highest price, the lowest price, the opening

price and the closing price of the commodities on day to day basis. The highest price and the

lowest price of a day are joining by a vertical bar. There are mainly three types of

candlesticks, like the white, the black and the doji or neutral candlestick. A white candlestick is

used to represents a situation where the closing price of the day is higher than the opening price.

A Black candlestick is used to represents a situation where the closing price of the day is lower

than the opening price. A White candlestick indicates a bullish trend while a black candlestick

indicates a bearish trend. A doji candlestick is the one where the opening price and the closing

price of the day are the same.

CHART PATTERNS


When the price bar charts of several days are drawn close together, certain patterns

emerge. These patterns are used by technical analysts to identify trend reversal and predict the

future movement of prices. The chart patterns may be classified as support and resistance

patterns, reversal patterns.

1. Support and resistance patterns: Support and resistance are the price levels at which the

downtrend or uptrend in price movements is reversed. Support occurs when price is falling but

bounces back or reverses direction every time it reaches a particular level. When all
 these low points are connected by a horizontal line, it forms the support line. In other words,

support level is the price level at which sufficient buying pressure is exerted to stop the fall in

prices.

Resistance occurs when the commodity price moves upwards. The price may fall back

every time it reaches a particular level. A horizontal line joining these tops forms the

resistance level. Thus, resistance level is the price level where sufficient selling pressure

is exerted to halt the ongoing rising in the price of a share.

If the scrip were to break the support level and move downwards it has bearish

implications signaling the possibility of a future fall in prices. Similarly, if the scrip were

to penetrate the resistance level it would be indicative of a bullish trend or a future rise in

prices.



2. Reversal patterns: The trends reverse direction after a period of time. These reversal can be

identified with the help of certain chart formations that typically occur during these

trend revarsals. Thus reversal patterns are chart formations that trend to signal a change in

direction of the earlier trend.

Head and shoulder Formation: The most popular reversal pattern is Head and

Shoulder formation which usually occurs at the end of a long uptrend. This formation

resembles the head and two shoulders of a man and hence the name head and shoulder formation.

The first hump known as the left shoulder is formed when the prices reach the top under a

strong buying impulse. Then trading volume becomes less and there is a short downward swing.

This is followed by another high volume advance which takes the price to a higher top known
 as the head. This is followed by another reaction on less volume which takes the price down

to a bottom near to the earlier downswing. A third rally now occurs taking the price to a height

the head but comparable to the left shoulder. This rally results in the formation of the right

shoulder. A horizontal line joining the bottoms of this formation is known as the neckline. This

head and shoulder formation usually occurs at the end of the bull phase and is indicative of a

reversal of trend. After breaking the neckline the price is expected to decline sharply.

MATHEMATICAL INDICATORS


Commodity prices do not rise or fall in a straight line. The movements are

unpredictable. This makes the investors difficult for the analyst to measure the underlying trend.

We can use the mathematical tool of moving averages to smoothen the unpredictable movements

of the commodity prices and highlight the underlying trend.

Moving Averages

Moving averages are mathematical indicators of underlying trend of price movement.

There are two types of moving averages (MA) are commonly used by the analyst.

1. Simple Moving Average.

2 Exponential moving average.

The closing prices of the shares are generally used for the calculation of moving averages.


I.Simple moving average: An average is the sum of prices of a Commodity for a specified number

of days divided by the number of days, in a simple moving average, a set of averages are

calculated for a specified number of days, each average being calculated by including a

new price and excluding an old price.

 In the below table the first total of 148480 in column 3 is obtained by

adding the prices of the first five days, i.e. (29716+29790+29664+29698+29612). The

next Total of 148242 in column 3 is obtained by adding 6th day and deleting first day

price from the first total i.e. (148480-29716+29478) this process is continued. The moving

average in column 4 is obtained by dividing the total figure in column 3 by the number of

days i.e. 5.

Calculation of gold price Five days Simple Moving Average

(From 20th to 31st March14)

Total
Closing Of
Date Average of Five Days
Prices Five
Days
20th 29716
21st 29790
22nd 29664
23rd 29698
14848
25th 29612 29696
0
14824
26th 29478 29648.4
2
14803
27th 29585 29607.4
7
14785
28th 29477 29570
0
14760
29th 29448 29520
0
14739
30th 29411 29479.8
9

II. Exponential Moving Average(EMA): It is calculated by using the Following formula: EMA

= (Current closing price Previous EMA) Factor + Previous EMA (Where Factor = 2/n+1

and n = number of days for which the average is to be calculated.)

If we are calculating the five day exponential moving average, the correct five day EMA

will be available from the sixth day onwards. A moving average represents the underlying

trend in commodity price movement. The period of the average indicates the type of

trend being identified. For example, Five day or Ten day average would represent the short

term trend; a 50 day average would indicate the medium term trend and a 200 day average

indicates the long term trend.

The moving averages are plotted on the price charts. The curved line joining these

moving averages represent the trend line. When the price of the commodity intersects and

moves below or above this trendline, it may be taken as the first sign of trend reversal.

Sometimes, two moving averages one short-term and the other long term are used in

combination. In this case, trend reversal is indicated by the intersection of the two moving

averages.

.

Oscill
ators


Oscillators are the mathematical indicators calculated with the help of the closing price

data. They help to identify overbought and oversold conditions and also the possibility of trend

reversals. These indicators are called oscillators because they move across a reference point.


Rate of change Indicators (ROC)

It is a very popular oscillator which measures the rate of change of current price as

compared to the price a certain number of days or weeks back. To calculate a 7 day rate of

change, each days price is divided by the price which prevailed 7 days ago and then 1 is

subtracted from this price ratios

ROC = (Current price / Price n period ago) 1

Lets take an example of 10 days
Gold price.


Calculation of 10 days gold price of 3 day ROC

C
l
o
s
i
n
g

P
r Closing
i Price 3
c Days Price ROC
Days e Ago Ratio =Ratio - 1
2
9
7
1
1 6
2
9
7
9
2 0
3 2
9
 6
6
4
2
9
6 -
9 0.9993942 0.0006057
4 8 29716 66 34
2
9
6 -
1 0.9940248 0.0059751
5 2 29790 41 59
2
9
4 -
7 0.9937297 0.0062702
6 8 29664 73 27
2
9
5 -
8 0.9961950 0.0038049
7 5 29698 3 7
2
9
4 -
7 0.9954410 0.0045589
8 7 29612 37 63
2
9
4 -
4 0.9989822 0.0010177
9 8 29478 92 08
2
9
4 -
1 0.9941186 0.0058813
10 1 29585 41 59

The ROC values may be positive, Negative and also be zero. An ROC chart is shown

below where the X axis represents the time and the Y axis represents the values of the

ROC. The ROC values oscillate across the zero line. When the ROC line is above the zero line,

the price is rising and when it below the zero line, the price is falling.

Ideally, one should buy a commodity that is oversold and sell a commodity that is
overbought. In the ROC chart, the overbought zone is above the zero line and the oversold zone

is below the zero line. Many analysts use the zero line for identifying buying and selling

opportunities. Upside crossing (from below to above the zero line) indicates a buying

opportunity, while a downside crossing (from above to below the zero line) indicates a selling

opportunity.

The ROC has to be used along with the price chart. The buying and selling signals

indicated by the ROC should also be confirmed by the price chart.

MARKET INDICATORS

Technical analysis focuses its attention not only on individual commodity price

behaviour, but also on the general trend of market, Indicators used by technical analysts to study

the trend of the market as a whole are known as market indicators.

Technical Analysis Vs Fundamental Analysis

Fundamental analysis tries to estimate the intrinsic value of a commodity by evaluating

the fundamental factors affecting the economy, industry and company. This is a tedious

process and takes a rather long time to complete the process.

Technical analysis studies the price and volume movements in the market and by careful

examining the pattern of these movements, the future price of the commodity is predicted. Since

the whole process involves much less time and data analysis, compared to fundamental

analysis, it facilitates timely decision.



Fundamental analysis helps in identifying undervalued or overvalued securities. But

technical analysis helps in identifying the best timing of an investment, i.e. the best time to buy

or sell a security identified by fundamental analysis as undervalued or overvalued. Thus,

technical analysis may be used as a supplement to fundamental analysis rather than as a substitute

to it. The two approaches, however, differ in terms of their databases and tools of analysis.

Fudamental analysis and technical analysis are two alternative approaches to predicting stock

price behaviour. Neither of them is perfect nor complete by itself.

Technical analysis has several limitations. It is not an accurate method of analysis. It is

often difficult to identify the patterns underlying commodity price movements. Moreover, it is

not easy to interpret the meaning of patterns and their likely impact on future price movements.






CHAPTER 6

CONCLUSION

 CONCLUSION

Capital market is already matured and reached at high level, every investor interested to

invest but not in commodity Future Market due to lack of awareness. As per Data analysis

most of the investors do not have much idea of commodity market in Belgaum they are

required to be given awareness training and knowledge with the help of workshops and

seminars, as investors are willing to know more about commodity market i.e. 61% of the

respondents are willing to invest in the market. Brokers should take major steps to give

fare knowledge about the commodity market and its operations to the public. Compared to

Capital market Commodity market is less risky (minimum margin, easy to hold, no

manipulation & fraud), maximum profitability. Commodity market is in growing stage.

As in my study it is found that, there exists a high degree of positive correlation between

Spot Commodity Market and Commodity Future Market. If an amount of small change in

the spot gold market prices has the direct impact on the future prices of gold in commodity

market. So Traders can take more advantage of this. Because they can predict the future

prices, depending upon the present demand and Supply in the spot market. As they also get

benefits of diversification, means in case of uncertainty in gold market they can invest in

dollar i.e. forex market. It helps to all such as Individual investors and gold traders. There

is a maximum hours of trading that is from 10am to 11.55 pm. It is better for working class

people to deal at evening.

"In the absence of the gold standard, there is no way to

protect savings from confiscation through inflation. There is no safe
store of value."


SUMMARY OF MY FINDINGS

In India MCX is trading in bullion market.

Goldsmiths get their raw material from wholesale dealers.
They fix the prices on daily trading bases.
Hence there is positive correlation between both market traders can easily predict the future

prices of the commodities and hedge their positions.

Most of the respondents are interested in investing in equity (i.e. 49%) when compared to the

other investment alternatives because they feel investing in equity will provide more returns

to them.
Now commodity future market is not new to the investors as almost 82% of respondents are

aware about commodity future market out of them only 16% have actually invested.
67% of Investors have not invested as they have a perception that it is risky and they even do

not have much knowledge about trading mechanism.

The investors who have not yet invested in the commodity future market, out of them 61% of

the investors are interested to invest in the coming future. The investors expect that the

brokers should provide them the genuine information regarding the market. Also they want

moderate brokerage and good services from the brokers.

For gold price fluctuation main reasons are

Dollar depreciation / appreciation

World distress

Increase in money supply

Inflation

AREA OF FURTHER RESEARCH

 Further study on this topic could be done by considering more commodities with the help

of primary data collection source. Also the research does not mention about the effect of

growth of commodity market on the economy of India as a whole. The impact of same on

the society is also left untouched. Hence there is a lot of further scope of study to be

carried out in different areas which could not be done due to limitation on time and other

resources.

REFERENCES

Books:

Security Analysis And Portfolio Management

- S.Kevin
E Books:

NCFM module for commodity market

COMDEX Educational series

Investors Educational series -
Angel commodities

Nair C.K.G.: Commodity Futures Markets in India: Ready for Take

Off?

Websites:

www.geojit.com

www.bseindia.com

www.mcx.com

www.kitco.com

www.ncdex.com

www.nseindia.com


A study on Commodity Market

1