Commodity Derivatives & Risk

Management

Session 1
Dr. Prabina Rajib
Professor
Vinod Gupta School of Management
IIT Kharagpur, 721302
prabina@vgsom.iitkgp.ernet.in
 What is a “Commodity”?
 Commodity, by definition, is a good which is produced
by many producers/companies/firms without any
qualitative difference and the producer can not be
identified by examining the goods.
 A ton of steel /gold produced anywhere
 A ton of copper/rubber produced anywhere

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 Which are Commodities?

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 Why should we learn about commodities &
commodity derivatives?
 Human beings have traded commodities since time
immemorial.
 What is new?
 Commodities and derivatives contracts on commodities
are traded in exchanges.
 Commodity prices are increasingly becoming volatile.
 Important for consumers/producers to understand
what factors are contributing to volatility and how
commodity price risk can be mitigated ?
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 WHY SHOULD WE LEARN ABOUT COMMODITIES &
COMMODITY DERIVATIVES?

 Commodities are emerging as a new asset class.

 Commodities exhibit negative correlation with
most other asset classes – equity, bond, real
estate etc.
 Commodity investments also provide an effective
hedge against inflation.
 When inflation rises, commodity prices also
increase.

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 Financial Derivatives vs. Commodity
Derivatives
 Derivatives
 A product which derives its values from an underlying
 Index like Sensex and NIFTY are also derivatives
 However, we normally categorize forwards, futures, options,
swaps etc as derivatives.
 Derivative contracts can have
 Stocks, bonds, foreign exchange, interest rates,
 Various commodities as underlying.
 In commodity exchanges, futures, options on various types of
commodities trade.
 Besides standard commodities, contracts on exotic
commodities such as Carbon credits, Hurricane, Electricity,
Rainfall, Payroll, Freight Rates, Real Estate also trade in
various exchanges
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 Difference Between Commodity Spot Exchange and
Commodity Exchanges
 In commodity exchanges, derivative contracts on commodities
trade
 MCX and NCDEX of India , CME, TOCOMO, ICE, SHFE
 In spot market buyers/seller exchange goods for immediate
delivery.
 Buying 2 kgs of potato from our neighborhood shop
 A farmers selling potato 200 quintals of potato to a wholesaler in a
mandi is also a spot market transaction.
 With the online trading facilities, many wholesale markets are
shifting to online platform , but these are spot exchanges.
 NCDEX e Markets Limited (formerly known as NCDEX Spot
Exchange Ltd)
 Rashtriya e Market Services Private Limited
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 More on Spot Exchanges.
 In a spot exchange, in e-auction platform
 A seller solicits bids from buyers, sells the underlying goods
to the highest bidder. (Forward auction)
 FCI started selling wheat to bulk consumers/ traders as
part of its OMSS ( Open Market Sales Scheme) through
e-auction platform of NCDEX e-market platform.
 FCI now conducts sale through
http://www.valuejunction.in/fci
 A buyer solicits bids from sellers, and buys the underlying
commodity from the lowest bidder (Reverse auction)

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 Types of auction (single unit Vs. Multi
Unit)
 Explain these auctions (Single Unit)
 English auction
 Dutch auction
 First price sealed bid auction
 Second price sealed bid auction ( Vickery auction)
 Answer
 Multi Unit auctions
 Multiple price auctions
 Single/Uniform price auction.
 Explain what kinds of auction FCI OMSS will be undertaking
?

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 FCI OMSS

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 Historical Perspective of Commodity
Exchanges
 Dojima Rice Market -1730
 Baltic Exchange-1744
 Chicago Board of Trade (CBOT) -1849,
 Argentina’s Bolsa De Cereales -1854
 London Metal Exchange (LME) -1877
 Association Cottoniere d'Alexandrie -1899
 International Petroleum Exchange (IPE) -1970
 Chicago Climate Exchange (CCX) - 2003

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 Historical Perspective of Commodity
Exchanges (India)
 Bombay Cotton Exchange Ltd. (1893)
 By 1939, there were 300 commodity exchanges in India
 Gujarat Vyapari Mandali
 Calcutta Hessian Exchange Ltd.
 East India Jute & Hessian Ltd.
 India Pepper and Spice Trade Association (IPSTA)
 Based on Forward Contracts (Regulation) Act, 1952,
Forward Market Commission (FMC) became the regulator.
 Government o f India brought

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 Historical Perspective of Commodity Exchanges in India

 Shorff Committee (1950)

 Dantwala Committee (1966)
 Khusro Committee (1979)
 Kabra Committee (1994)
 Expert Committee on National Agricultural Policy (2000)
 Abhijit Sen Committee (2007)

 National Multi-Commodity Exchange of India Ltd. (NMCE) (2003)

 National Commodity and Derivatives Exchange Ltd. (NCDEX) (2003)
 Multi Commodity Exchange of India Ltd (MCX) (2003)
 Indian Commodity Exchange Limited (2009)
 FMC merged with SEBI (Securities Exchange Board of India) in
September 2015.
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 Regional Commodity Exchange
List of Regional Commodity Exchanges in India
1. The Ahmedabad Commodity Exchange., Castorseed
Ahmedabad

2. The Bombay Commodity Exchange Ltd., Castorseed, Castor Oil

Mumbai (International), RBD
Palmolein, Sunflower Oil &
Groundnut oil

3. Rajkot Seeds Oil & Bullion Merchants Assn., Castorseed

Rajkot

4. The East India Cotton Assn. Ltd., Mumbai Cotton

7. The South India Cotton Association, Coimbatore Cotton

8. Bhatinda Om & Oil Exchange Ltd., Bhatinda Gur

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 Commodity Underlying
Types of Commodities traded in Major Commodities Exchanges all over
the World
Agricultural & Food Wheat, Soyabean, Tea, Coffee, Sugar, Almond, Chana Dal, Jeera,
Turmeric, Barley, Coriander, Mustard Seed, Mustard Oil, Guar Seed and
Guar Gum, Cocoa, Corn, Rice, Soyabean oil, Sunflower oil, Cotton,
Rubber, Lumber, Butter, Milk, Cheese, Shrimp, Rice, Canned Pine Apple,
Tapoica, etc
Livestock & Meat Lean Hogs, Live Cattle, Feeder Cattle, Wool, Egg. etc
Fuels Gasoline, Kerosene, Crude oil, Diesel, Ethanol, Natural gas, Coal etc.

Metals Gold, Silver, Platinum, Steel, Steel Scrap, Copper, Lead, Zinc, Tin,
Aluminium, Nickel, Cadmium, Cobalt, Magnesium, Manganese,
Molybdenum etc.

Other non- Weather, Emission, Electricity, Ocean Freight, Real Estate, Water, Payroll
conventional etc.
products

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