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Summer Training Report
On
Commodities Market
AT
UNICON INVESTMENT SOLUTIONS. HYDERABAD
Prepared By
Mr. DIXITH GANDHE
Roll No. 09PG017
Batch 2009-11
Under the Guidance of
Mr. Kiran Kumar (Business head) Prof. Dr.REKHA(Company Guide) (Faculty Guide)
In partial fulfillment of the Course-Industry Internship Programme (IIP) in Term
IV of the Post Graduate Programme in Management (Batch: Aug. 2009 2011)
Bangalore
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Post Graduate Programme
Post Graduate Programme in Management: Aug.2009 2011
Term IV: Industry Internship Programme (IIP)
Declaration
This is to declare that the Report entitled . has beenmade for the partial fulfillment of the Course: Industry Internship Programme (IIP) inTerm IV (Batch: Aug. 2009-2011) by me at UNICON INVESTMENT SOLUTIONS(organization) under the guidance of Dr. Rekha.
I confirm that this Report truly represents my work undertaken as a part of my IndustryInternship Programme (IIP). This work is not a replication of work done previously byany other person. I also confirm that the contents of the report and the views containedtherein have been discussed and deliberated with the Faculty Guide.
Signature of the Student :
Name of the Student (in Capital Letters) :
Registration No :
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Post Graduate Programme in Management
Certificate
This is to certify that Mr. / Ms. ___________________ Regn. No. _______ has
completed the Report entitled ___________________________________________
under my guidance for the partial fulfillment of the Course: Industry InternshipProgramme (IIP) in Term IV of the Post Graduate Programme in Management (Batch:
Aug. 2009 2011).
Signature of Faculty Guide:
Name of the Faculty Guide:
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ACKNOWLEDGEMENT
I would like to express my deep sense of gratitude to the faculty at Alliance Business
School, particularly Dr.Rekha , Senior Professor- Finance to guide me through my
internship program.
I would like to express heartfelt thankfulness to my industry mentor, Mr Kiran Kumar
who has given me his precious time and expertise people to help me keep learning duringmy internship.
A special mention ofMr. Suresh, Mr. Abishek, for having made a positive difference
towards the whole learning process and giving me the best of the information and
training.
Dixith Gandhe
Place: hyderabad
Date:
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TABLE OF CONTENTS
Pg.no
1. EXECUTIVE SUMMARY 6
2. INTRODUCTION 8
2.1. INDUSTRY OVERVIEW 13
2.2. COMPANY OVERVIEW 20
3. PROJECT PROFILE 26
4. OBJECTIVE OF STUDY 28
5. OBSERVATIONS 41
6. ANALYSIS 50
7. FINDINGS 64
8. RECOMMENDATIONS AND CONCLUSION 67
9. LEARNING OUTCOME 70
10. BIBILOGRAPHY
11.ANEXURE
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EXECUTIVE SUMMARY
Our endeavour is to find out the status of commodity Derivatives as they stand in theoverall economical, social and demographic picture of our system. The impact ineconomical system is very much clear and beyond any dispute as Commodities arethemselves economical propositions.
But commodities are also subject matter of our social fabrication. Any society containstwo set of people: Traders and farmers. Commodities have a huge impact on lives of bothset of people. Their business practices and strategies are rapidly changing and commoditymarket is very much influencing it. We have studied that impact. It is noteworthy that thenew world economic order is of convergence. All sectors, economies and trades are being
interrelated. Whether we like it or not, our businesses are no more ours. Total worldeconomy is involved into it. The same applies to commodities. Whether one participatesinto it or keeps himself aloof, he, in no ways can escape its effects.
However, it has to be kept in mind that as an asset class and even as a tool of riskminimization (for Traders, Farmers and businesses); it is a very new and nascentproposition in India. Even though Commodity futures havetheir long history in thiscountry, periodical bans and derogatory government policies have hindered theirprospects to develop as a tool for hedgers (risk minimization), leave alone thematter of theirdevelopment as an investment avenue. Their primary goal of true pricediscovery is also much waited.
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2 INTRODUCTION
CLASSIFICATION OF MARKETS
The vast geographical extent of India and her huge population is aptly
complemented by the size of her market. The broadest classification of the Indian Market
can be made in terms of the commodity market and the bond market.
The commodity market in India comprises of all palpable markets that we come
across in our daily lives. Such markets are social institutions that facilitate exchange of
goods for money. The cost of goods is estimated in terms of domestic currency. Indian
Commodity Market can be subdivided into the following two categories:
Wholesale Market
Retail Market
The traditional wholesale market in India dealt with the whole sellers who bought
goods from the farmers and manufacturers and then sold them to the retailers aftermaking a profit in the process. It was the retailers who finally sold the goods to the
consumers. With the passage of time the importance of whole sellers began to fade out
for the following reasons:
o The whole sellers in most situations, acted as mere parasites that did not add any
value to the product but raised its price which was eventually bear by the
consumers.
o The improvement in transport facilities made the retailers to directly interact with
the producers and hence the need for whole sellers was not felt.
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In recent years, the extent of the retail market (both organized and unorganized)
has evolved in leaps and bounds. In fact, the success stories of the commodity market of
India in recent years has mainly centered on the growth generated by the Retail Sector.
Almost every commodity under the sun both agricultural and industrial is now being
provided at well distributed retail outlets throughout the country.
Moreover, the retail outlets belong to both the organized as well as the unorganized
sector. The unorganized retail outlets of the yesteryears consist of small shop owners
who are price takers where consumers face a highly competitive price structure. The
organized sector on the other hand is owned by various business houses like Pantaloons,
Reliance, Tata and others. Such markets are usually selling a wide range of articles such
as agricultural and manufactured, edible and inedible, perishable and durable. Modern
marketing strategies and other techniques of sales promotion enable such markets to
draw customers from every section of the society. However the growth of such markets
has still centered on the urban areas primarily due to infrastructural limitations.
The share of retail trade in the country's gross domestic product (GDP) was
between 810 per cent in 2007. It is currently around 12 per cent, and is likely to reach
22 per cent by 2010. A McKinsey report 'The rise of Indian Consumer Market', estimates
that the Indian consumer market is likely to grow four times by 2025. Commercial real
estate services company, CB Richard Ellis' findings state that India's retail market iscurrently valued at US$ 511 billion. India's overall retail sector is expected to rise to US$
833 billion by 2013 and to US$ 1.3 trillion by 2018, at a compound annual growth rate
(CAGR) of 10 per cent.
A Brief History of future Markets
In the 1840s, Chicago had become a commercial center with railroad and
telegraph lines connecting it with the East. Around this same time, the McCormick reaper
was invented which eventually lead to higher wheat production. Midwest farmers came
to Chicago to sell their wheat to dealers who, in turn, shipped it all over the country.
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Farmers brought their wheat to Chicago hoping to sell it at a good price. The city had few
storage facilities and no established procedures either for weighing the grain or for
grading it. In short, the farmers were often at the mercy of the dealer.
1848 saw the opening of a central place where farmers and dealers could meet to deal in
"spot" grain - that is, to exchange cash for immediate delivery of wheat.
The futures contract, as we know it today, evolved as farmers (sellers) and dealers
(buyers) began to commit to future exchanges of grain for cash. For instance, the farmer
would agree with the dealer on a price to deliver to him 5,000 bushels of wheat at the end
of June. The bargain suited both parties. The farmer knew how much he would be paid
for his wheat, and the dealer knew his costs in advance. The two parties may have
exchanged a written contract to this effect and even a small amount of money
representing a "guarantee."
Such contracts became common and were even used as collateral for bank loans. They
also began to change hands before the delivery date. If the dealer decided he didn't want
the wheat, he would sell the contract to someone who did. Or, the farmer who didn't want
to deliver his wheat might pass his obligation on to another farmer the price would go up
and down depending on what was happening in the wheat market. If bad weather hadcome, the people who had contracted to sell wheat would hold more valuable contracts
because the supply would be lower; if the harvest were bigger than expected, the seller's
contract would become less valuable. It wasn't long before people who had no intention
of ever buying or selling wheat began trading the contracts. They were speculators,
hoping to buy low and sell high or sell high and buy low.
THE FUTURES CONTRACT
Unlike a stock, which represents equity in a company and can be held for a long time, if
not indefinitely, futures contracts have finite lives. They are primarily used for hedging
commodity price-fluctuation risks or for taking advantage of price movements, rather
than for the buying or selling of the actual cash commodity. The word "contract" is used
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because a futures contract requires delivery of the commodity in a stated month in the
future unless the contract is liquidated before it expires.
The buyer of the futures contract (the party with a long position) agrees on a fixed
purchase price to buy the underlying commodity (wheat, gold or T-bills, for example)
from the seller at the expiration of the contract. The seller of the futures contract (the
party with a short position) agrees to sell the underlying commodity to the buyer at
expiration at the fixed sales price. As time passes, the contract's price changes relative to
the fixed price at which the trade was initiated. This creates profits or losses for the
trader.
In most cases, deliverynever takes place. Instead, both the buyer and the seller, acting
independently of each other, usually liquidate their longand short positions before the
contract expires; the buyer sells futures and the seller buys futures.
Arbitrageurs in the futures markets are constantly watching the relationship between cash
and futures in order to exploit such mispricing. If, for example, an arbitrageur realized
that gold futures in a certain month were overpriced in relation to the cash gold market
and/or interest rates, he would immediately sell those contracts knowing that he could
lock in a risk-free profit. Traders on the floor of the exchange would notice the heavyselling activity and react by quickly pushing down the futures price, thus bringing it back
into line with thecash market. For this reason, such opportunities are rare and fleeting.
Most arbitrage strategies are carried out by traders from large dealer firms. They monitor
prices in the cash and futures markets from "upstairs" where they have electronic screens
and direct phone lines to place orders on the exchange floor.
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2.1 INDUSTRY OVERVIEW:
Stock Broking Sector in India
The Indian broking industry is one of the oldest trading industries that has been around
even before the establishment of the BSE in 1875. Despite passing through a number of
changes in the post liberalization period, the industry has found its way towards
sustainable growth. In this section our purpose will be of gaining a deeper understanding
about the role of the Indian stock broking industry in the countrys economy.
SEBI and its role :
The Securities and Exchange Board of India (SEBI) is the regulatory authority in India
established under Section 3 of SEBI Act, 1992. SEBI Act, 1992 provides for
establishment of Securities and Exchange Board of India (SEBI) with statutory powers
for (a) protecting the interests of investors in securities (b) promoting the development of
the securities market and (c ) regulating the securities market. Its regulatory jurisdiction
extends over corporates in the issuance of capital and transfer of securities, in addition to
all intermediaries and persons associated with securities market. SEBI has been obligated
to perform the aforesaid functions by such measures as it thinks fit. In particular, it has
powers for:
Regulating the business in stock exchanges and any other securities markets
Registering and regulating the working of stock brokers, subbrokers etc.
Promoting and regulating self-regulatory organizations
Prohibiting fraudulent and unfair trade practice.
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Calling for information from, undertaking inspection, conducting inquiries and
audits of the stock exchanges, intermediaries, self- regulatory organizations,
mutual funds and other persons associated with the securities market.
Broking houses in India
India is a country having a big list of Broking Houses. The Equity Broking Industry in
India has several unique features like it is more than a century old, dynamic, forward
looking, and good service providers, well conversant, highly innovative and even
adaptable. The regulations and reforms been laid down in the Equity Market has resulted
in rapid growth and development. Basically, the growth in the equity market is largely
due to the effective intermediaries.
The Broking Houses not only act as an intermediate link for the Equity Market but also
for the Commodity Market, Foreign Currency Exchange Market, and many more. The
Broking Houses has also made an impact on the Foreign Investors to invest in India to
certain extent.
In the last decade, the Indian brokerage industry has undergone a dramatic
transformation. From being made of close groups, the broking industry today is one of
the most transparent and compliance oriented businesses. Long settlement cycles and
large scale bad deliveries are a thing of the past with the advent of T+2 settlement cycle
and dematerialization. Large and fixed commissions have been replaced by wafer thin
margins, with competition driving down the brokerage fee, in some cases, to a few basis
points.
There have also been major changes in the way business is conducted. Technology has
emerged as the key driver of business and investment advice has become research based.
At the same time, adherence to regulation and compliance has vastly increased. The
scope of services have enhanced from being equity and commodity products to a wide
range of financial services. Investor protection has assumed significance,.
Major Players in the industry
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Religare Securities , ICICI Direct, India Info line Security Pvt. Ltd HDFC
Securities ,India bulls ,Kotak Securities,Reliance Money ,Share khan
Securities,Motilal Oswal,Anand Rathi Securities,Unicon securities pvt ltd
Comparison of major players
Brokerage Equity
Name of Firm
Intraday
(In Paisa)
Delivery
(In Paisa)
Sub-
Broker
DMAT
in Rs.
Margin
Money
Angel Broking Ltd. 5 50 75 760 5000
Reliance Money 5 50 35 950 0
Sharekhan
Securities 5 25 50 850 10000
Motilal Oswal
Securities 3 30 40 650 5000
India Infoline 3 25 15 805 5000
ICICI Direct 7.5 75 0 499 5000
Kotak Securities 3 30 0 300 5000
India Bulls 3 30 0 888 0
Anand Rathi
Securities 3 20 25 736 0
Religare Securities 2 25 80 750 5000
Hem Securities 1.5 20 40 660 7000
Comparison of major players in the industry :
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Services
Mutual
Insurance
PMS
Backoffice
E-Brokin
g
Investme
nt
M-Connect
Funding
Personal
Software
Religare
SecuritiesYes Yes Yes Yes Yes Yes Yes No Yes Yes
ICICI Direct No Yes Yes Yes Yes Yes No Yes Yes Yes
India Infoline
Security Pvt. Ltd.Yes No Yes Yes Yes Yes No No Yes Yes
HDFC Securities Yes No Yes Yes Yes Yes No Yes Yes Yes
Indiabulls Yes Yes No Yes Yes Yes No No Yes Yes
Kotak Securities Yes Yes Yes Yes Yes Yes No No Yes Yes
Reliance Money Yes Yes No Yes Yes Yes No No Yes Yes
Sharekhan
SecuritiesNo No Yes Yes Yes Yes No No Yes Yes
Motilal Oswal No Yes No Yes Yes Yes No No Yes Yes
Anand Rathi
SecuritiesNo Yes Yes Yes Yes Yes No No No Yes
Hem Securities Yes Yes Yes Yes Yes Yes No No No Yes
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Comparison of services provided by major players:
Services
Mutual
Insurance
PMS
Backoffice
E-Broking
Investment
M-Connect
Funding
Personal
Software
Unicon Investment
solutionsyes yes yes yes yes yes yes yes No yes
ICICI Direct No Yes Yes Yes Yes Yes No Yes Yes Yes
India Infoline
Security Pvt. Ltd.Yes No Yes Yes Yes Yes No No Yes Yes
Indiabulls Yes Yes No Yes Yes Yes No No Yes Yes
Kotak Securities Yes Yes Yes Yes Yes Yes No No Yes Yes
Reliance Money Yes Yes No Yes Yes Yes No No Yes Yes
Anand Rathi
SecuritiesNo Yes Yes Yes Yes Yes No No No Yes
In fact, the size of the commodities markets in India is also quite significant. Of the
country's GDP of Rs 13, 20,730 crore (Rs 13,207.3 billion), commodities related (and
dependent) industries constitute about 58 per cent. Currently, the various commodities
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across the country clock an annual turnover of Rs 1, 40,000 crore (Rs 1,400 billion).
With the introduction of futures trading, the size of the commodities market grows many
folds here on.
The history of organized commodity derivatives in India goes back to the nineteenth
century when Cotton Trade Association started futures trading in 1875, about a
decade after they started in Chicago. Over the time datives market developed in
several commodities in India. Following Cotton, derivatives trading started in
oilseed in Bombay (1900), raw jute and jute goods in Calcutta (1912),Wheat in
Hapur (1913) and Bullion in Bombay (1920).
However many feared that derivatives fuelled unnecessary speculation and weredetrimental to the healthy functioning of the market for the underlying commodities,
resulting in to banning of commodity options trading and cash settlement of commodities
futures after independence in 1952.
The parliament passed the Forward Contracts (Regulation) Act, 1952, which regulated
contracts in Commodities all over the India. The act prohibited options trading in Goods
along with cash settlement of forward trades, rendering a crushing blow to the
commodity derivatives market. Under the act only those associations/exchanges, which
are granted reorganization from the Government, are allowed to organize forward trading
in regulated commodities. The act envisages three tire regulations: (i) Exchange which
organizes forward trading in commodities can regulate trading on day-to-day basis; (ii)
Forward Markets Commission provides regulatory oversight under the powers delegated
to it by the central Government. (iii) The Central Government- Department of Consumer
Affairs, Ministry of Consumer Affairs, Food and Public Distribution- is the ultimate
regulatory authority.
The commodities future market remained dismantled and remained dormant for about
four decades until the new millennium when the Government, in a complete change in a
policy, started actively encouraging commodity market. After Liberalization and
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Globalization in 1990, the Government set up a committee (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 Forward
Markets Commission, and certain amendments to Forward Contracts (Regulation) Act
1952, particularly allowing option 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. It is timely decision since internationally the
commodity cycle is on upswing and the next decade being touched as the decade of
Commodities.
The Commodity Trading Market of established itself in India as a dominant market form
much before the 1970s. In fact, in the last phase of 1970s, the commodity trading market
of India started to loose its' vibrancy. This happened because, from the late 1970s,
numerous regulations and restrictions started to be introduced in the commodity market
of India and these restrictions were acting as obstacles in the path of smooth functioning
In the recent years, many restrictions, which were negatively affecting commodity
trading market, have been removed. So, now the commodity trading market of India has
again started to grow in a fast pace. Commodity market is an important constituent of the
financial markets of any country. It is the market where a wide range of products, viz.,
precious metals, base metals, crude oil, energy and soft commodities like palm oil, coffee
etc. are traded. It is important to develop a vibrant, active and liquid commodity market.
This would help investors hedge their commodity risk, take speculative positions in
commodities and exploit arbitrage opportunities in the market.
India is arguably the largest bullion market in the world. It has been until now, the
undisputed single-largest Gold bullion consumer, with its own final demand outweighing
the next largest market China by almost 57 percent. But it seems now, that the Chinese
Gold buyers have caught up during 2008 as Chinese demand is surging rapidly (up by 15
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percent year-on-year). Indian demand fell as Indian Gold sales collapsed by about 65
percent in the year 2008. In spite of being the largest consumer of gold, India plays no
major role globally in influencing this precious metal's pricing, output or quality issues.
Indias total gold holdings are between 10,000 tonnes and 15,000 tonnes of which the
Reserve Bank of India has only around 400 tonnes. India has the largest number of gold
Jewellery shops in the world.
2.2. COMPANY OVERVIEW
UNICON is a financial services company which has emerged as a one-stop investment
solutions provider. It was founded in 2004 by two visionary and hard working
entrepreneurs, Mr. Gajendra Nagpal and Mr. Ram M. Gupta, who possess expertise in
the field of Finance. The company is headquartered in New Delhi, and has its corporate
office in Mumbai with regional offices in Kolkata, Chennai, Hyderabad and Noida.
UNICON is a professionally managed company led by a team with outstanding
managerial acumen and cumulative experience of more than 400 man years in the
financial markets The Company is supported by more than 4500 Uniconians and has a
team of over 900 business offices in 235 cities across India.With a customer base of over 200,000 the Unicon Group has an eye for the intricate
financial needs of its clients and caters to both their short term and long term
financial needs through a comprehensive bouquet of investment services. It has been
founded with the aim of providing world class investing experience to the investing
community. These services range from offline & online trading in equity, commodities
and currency derivatives to debt markets to corporate finance and portfolio management
services. The company has a sizable presence in the distribution of 3rd party financial
products like mutual funds, insurance products and property broking. It also provides
expert Advisory on Life Insurance, General Insurance, Mutual Funds and IPOs. The
distribution network is backed by in-house back office support to provide prompt and
efficient customer service
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The Equity broking arm UNICON Securities Pvt. Ltd offers personalized premium
services on the NSE, BSE & Derivatives market. The Commodity broking arm Unicon
Commodities Pvt. Ltd offers services in Commodity trading on NCDEX and MCX. The
UNICON group also has a PCG division providing investments solutions for High Net
worth Individuals. The Corporate Advisory Services arm Unicon Capital Services (P)
Ltd offers entire gamut of Investment Banking services to corporate.
UNICON can boast of some of the most respected names in the private equity space like
Sequoia Capitals, Nexus India Capital and Subhkam Ventures as its shareholders.
UNICON Edge:
Among the Top 20 Equity Brokers in India.
Professional promoter pedigree
Dynamic management team
Diverse and versatile business model
Vast distribution network and reach
Strong Brand Recognition within a short span
Robust & strong IT backbone
Advisory team from top management institutes like FMS & IIM
CORPORATE MILESTONES:
Milestone 1 (2004): UNICON Started as Franchisee of Fortis Securities and
Pioneered the concept of National Business Partner.
Milestone 2 (2005): UNICON acquired the NSE, BSE ticket.
Milestone 3 (2006): UNICON raised its first round of Private Equity by Subhkam
ventures, Commodities business was launched, and Rolled out its Third Party
Distribution Wing.
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Milestone 4 (2007): UNICON became one of the top five Life Insurance
distributors in the country and Started Property Broking Business.
Milestone 5 (2008): UNICON acquired its PMS license, Raised 2nd Round of
Private Equity of 120 cr. From Sequoia Capital & Nexus, Completed entire
bouquet of financial products, and Launched Fixed Income Group.
Milestone 6 (2009); UNICON started Retail Wealth Management, Rolled out its
research wings, and Acquired category 1 Merchant Banking License.
OFFERINGS:
Equity:
20
th
largest broking house of India in term of trading terminal (Source: Dun andBradstreet, 2009).
Rapid growth in client base Trading Member of NSE, BSE & F&O
Depository Participant with CDSL of Capital Market.
Equity Clients rose from 5582 in 2006 to 94386 in 2009.
Commodity:
Started operation in March 2006.
Rapid Growth in client base.
Trading & clearing member for NCDEX, MCX & NMCE.
Current Market share is approx 1%.
Average turnover of 250 Cr per day.
Commodity clients rose from 101 in 2006 to 22272 in 2009.
Distribution:
Preferred distributor for many Insurance and Real Estate companies.
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Dedicated workforce of more than 2000 employees.
Distribution arm awarded the fastest growing business partner of the year by
ICICI Prudential Life Insurance in 2008-09.
Distribution arm declared Number 1 partner Pan India by Reliance Life Insurance
in 2008-09.
Insurance customers rose from 4650 in 2007 to 80000 in 2009.
In depth analysis of the IPO issues.
We distribute more than 5000 Schemes from 35 mutual funds.
We not only search for the ideal combination of products and services, but also
provide our clients with the possibility of fine tuning every aspect that is specific
to them.
Started Life Insurance business in 2006.
First broking house to achieve more than 100 Cr. Target in the first year.
More than 3000 General Insurance advisors across India.
UNICON offers all products of General Insurance under one umbrella.
UNICON team evaluates the clients business environment and studies the risk
profile and suggests the most cost effective, integrated insurance package.
We have highly experienced & professional teams in both Retail and Commercial
streams.
We offer a total solution to our clients inclusive of market research, marketing
strategy, sales or leasing of the property.
Fixed Income:
The Fixed Income Group undertakes following activities:
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Dealing in money market instruments viz. CP, CD and T-Bills.
Retailing of government securities and Bonds.
Securitization of receivable portfolio-Pass through certificates.
Raising of resources both by way of Debt and Equity (IPO/FPO)
Arranges for Private placement of Bonds.
Investment Banking:
Private Equity (PE) Syndication:
We specialize in the syndication of the private equity for the Indian companies in
high-growth markets on their capitalization/re-capitalization strategies, which helps
them to achieve their growth targets.
Our team of professionals ensures complete confidentiality, strong focus on
implementation and quick turnaround time. Access to key decision makers at PE
funds gives us an edge in optimal structuring and efficient closure of transactions. We
service our clients through various stages of the PE deal namely collateral
preparation, investor short listing, commercial term sheet, due diligence and final
closure.
Mergers & Acquisitions (M&A) Advisory:
We provide both buy-side and sell-side advisory services as part of our M&A
advisory offering. We advise clients during the entire transaction process right
from target identification to deal closure. We have an experienced and highly
qualified team with more than 40+ man-years of experience which specializes in
identification and short listing of potential targets, strategic planning of an
acquisition and arranging capital for the transaction, if needed.
Debt Syndication Our offerings include:
o Project Finance / Term Loans for Expansion - Arranging Long-term loans
for setting up new projects from Financial Institutions and Banks.
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o External Commercial Borrowings (ECBs) - Arranging LIBOR-linked
loans. Foreign Currency Convertible Bonds (FCCB)-Arranging FCCB
Loans.
o Working Capital Facilities - Arranging fund-based and non-fund based
limits for clients from Banks at competitive rates. Trade Finance -
Arrangement of trade finance (Buyer's / Suppliers Credit).
o Inter-Corporate Deposits Borrowing and Placement.
Currency Derivatives:
Currently in India, futures contracts of 4 currencies are traded against the Indian Rupee
(INR). US Dollar Indian Rupee (USD INR) currency futures were the first to be
introduced in Aug 2008 and have seen a 1500% burst in volume growth in this period.
On Feb 1, 2010 the trading of Euro () Rupee (EUR INR), Pound Sterling () Rupee
(GBP INR) and Yen () Rupee (YEN INR) was introduced in India. As in the case of
USD INR, trading happens on 2 exchanges NSE and MCX-SX.
Unicon offers clients the opportunity to trade these products, either in online or offline
mode as per their needs. The products provide ample liquidity to function both as a
speculative tool and as a hedging instrument for exporters and importers. The attractive
features of the product are as follows:
Unlike currency forwards offered by banks, currency futures trading does not
have to be backed by an underlying merchant transaction exposure
Tight bid ask spreads; usually 0.25 paisa wide
Margin requirements less than 5% to take exposure on a lot size of $1000, 1000,
1000 and 1,00,000 respectively
New asset class for diversification for all resident individuals
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Commodity traders can hedge against unfavourable movements since gold, crude
etc.
For exporters and importers, no credit line required from their Banker as is the
case with forwards
Ideal tool for those with smaller exposures, as in the case of travel needs,
educational payments etc.
Unicon Advantage
Online & Offline trading facility on all the bourses
Exclusive daily commentary and research reports by our Currency analyst team
Regular updates on Dollar INR movement with calls to buy and sell
Special consultancy to Exporters, Importers & Corporate for their Forex
transactions
Receive education on the product through seminars/con-calls organized by
Unicon
Your Cash Margin with Unicon Securities can be used for either segment
Equity or Currency.
Other awaited products
Currency options are also expected to be added to the basket of products soon.
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3) PROJECT PROFILE:
Firstly, my prime job here in Unicon Investment Solutions Ltd is, that is to do analyzing
the commodity market in MCX,NCDEX add up clients in the company for investing in
equity and commodity market. They gave some fundamental knowledge about the
company and its policies, strengths etc which helps for me in convincing the people to
join the company. I will be given a chance to sit along with the advisory team to provide
service. This provides me understanding in clients behaviour towards fluctuating
markets and also the sensitivity of markets to the behaviour of the investors.
Secondly, we were asked to observe a scripts consistently and find the reasons for the
changes in its share price, and how This again provides good learning of different factors
affecting share and commodity market. I have chosen GOLD in the commodity market
for my analysis, and observing the factors affecting that market , strategies involving in
trading in commodity market to reduce risk, observing long hedge and short hedging and
observing profits.
Thirdly, a group of two each among the batch here were asked to choose a sector to
perform fundamental and technical analysis and draft a report. We have to choose the
industry and see the future outlook ,past performance .It provides a way to deal with
clients and to predict whether the share prices for a particular sector will enhance/wane.
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OBJECTIVES OF THE STUDY
The basic purpose of undergoing this project was:
I. To study the working of commodities market in detail.
II. To know the application of various technical & statistical tools.
III. To be able to foresee the future prospects.
SCOPE
As the project report is fully based on personal learning & observation it can be
used to have detailed knowledge about the working of Commodity Market. Also the
report can be used for decision making by a customer whether to go for Commodity
futures Trading or not?
METHODOLOGY:
The primary data is based on the questionnaire collected from the people of Hyderabad in
different places about the equity and commodity market.
The secondary data reveals investing in equity and commodity are inversely related and
investing in commodity market is very risky. And also about the commodity market, and
what are the factors affecting that in real world scenario, volumes traded in the market
And the interaction of the clients to know how they will trade and the strategies followed
by them to get a maximum return on their investment, also done analysis of the sector
when to buy/sell the shares in the market with the help of trend analysis and other
techniques such as moving averages
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LIMITATIONS
I. The study is based on historical data.
II. An attempt has been made to predict the future of market which may not come
true.
The commodity market in India is in its infantry stage
COMMODITY
A commodity may be defined as an article, a product or material that is bought and sold.
It can be classified as every kind of movable property, except Actionable Claims, Money
& Securities. Commodities actually offer immense potential to become a separate asset
class for market-savvy investors, arbitrageurs and speculators. Retail investors, who
claim to understand the equity markets, may find commodities an unfathomable market.
But in fact commodities are easy to understand as far as fundamentals of demand and
supply are concerned. Retail investors should understand the risks and advantages of
trading in commodity futures before taking a leap. Historically, pricing in commodity
futures has been less volatile compared with equity, thus providing an efficient portfolio
diversification option.
A cash commodity must meet three basic conditions to be successfully traded in the
futures market:
I. It has to be standardized and, for agricultural and industrial commodities, must
be in a basic, raw, unprocessed state. There are futures contracts on wheat, but
not on flour. Wheat is wheat (although different types of wheat have different
futures contracts).
The miller who needs wheat futures contract to help him avoid losing money on
his flour transactions with customers wouldn't need flour futures. A given
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amount of wheat yields a given amount of flour and the cost of converting wheat
to flour is fairly fixed & hence predictable.
II. Perishable commodities must have an adequate shelf life, because delivery on a
futures contract is deferred.
III. The cash commodity's price must fluctuate enough to create uncertainty, which
means both risk and potential profit.
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STRUCTURE OF COMMODITY MARKET
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Ministry of
Consumer Affairs
FMC (Forwards
Market Commission)
CommodityExchange
National Exchange Regional Exchange
NCDEX MCX NMCE NBOT20 other regional
exchanges
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DIFFERENT SEGMENTS IN COMMODITIES MARKET
Commodities
Ecosystem
MCX
Quality
Certificatio
n AgenciesHedger
(Exporters /Millers
Industry)
Producers
(Farmers/Co
-
operatives/In
stitutional)
Traders
(speculators)
arbitrageurs/
client)
Consumers
(Retail/
Institutional)
Transporter
s/Supportagencies
Clearing
Bank
Warehouses
GLOBAL COMMODITIES
MARKET
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SPOT MARKET
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The commodities market exits in two distinct forms namely the Over the Counter (OTC)
market and the Exchange based market. Also, as in equities, there exists the spot and the
derivatives segment. The spot markets are essentially over the counter markets and the
participation is restricted to people who are involved with that commodity say the farmer,
processor, wholesaler etc. Derivative trading takes place through exchange-based
markets with standardized contracts, settlements etc.
REGULATORS
Each exchange is normally regulated by a national governmental (or semi-governmental)
regulatory agency:
Country Regulatory agency
AustraliaAustralian Securities and Investments
Commission
Chinese mainlandChina Securities Regulatory
Commission
Hong Kong Securities and Futures Commission
India
Securities and Exchange Board of
India and Forward Markets
Commission (FMC)
PakistanSecurities and Exchange Commission
of Pakistan
Singapore Monetary Authority of Singapore
UK Financial Services Authority
USACommodity Futures Trading
Commission
Malaysia Securities Commission
LEADING COMMODITY MARKETS OF INDIA
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The government has now allowed national commodity exchanges, similar to the BSE &
NSE, to come up and let them deal in commodity derivatives in an electronic trading
environment. These exchanges are expected to offer a nation-wide anonymous, order
driven; screen based trading system for trading. The Forward Markets Commission
(FMC) will regulate these exchanges. Consequently four commodity exchanges have
been approved to commence business in this regard. They are:
S.NO. Commodity Market in India
1Multi Commodity Exchange (MCX),
Mumbai
2 National Commodity and DerivativesExchange Ltd (NCDEX), Mumbai
3National Board of Trade (NBOT),
Indore
4National Multi Commodity Exchange
(NMCE), Ahmadabad
BENEFITS TO INDUSTRY FROM FUTURES TRADING
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Hedging the price risk associated with futures contractual commitments.
Spaced out purchases possible rather than large cash purchases and its storage.
Efficient price discovery prevents seasonal price volatility.
Greater flexibility, certainty and transparency in procuring commodities would
aid bank lending.
Facilitate informed lending.
Hedged positions of producers and processors would reduce the risk of default
faced by banks. * Lending for agricultural sector would go up with greater
transparency in pricing and storage.
Commodity Exchanges to act as distribution network to retail agri-finance from
Banks to rural households.
Provide trading limit finance to Traders in commodities Exchanges.
BENEFITS TO EXCHANGE MEMBER
Access to a huge potential market much greater than the securities and cash
market in commodities.
Robust, scalable, state-of-art technology deployment.
Member can trade in multiple commodities from a single point, on real time basis.
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Traders would be trained to be Rural Advisors and Commodity Specialists and
through them multiple rural needs would be met, like bank credit, information
dissemination, etc.
WHY COMMODITY FUTURES?
One answer that is heard in the financial sector is "we need commodity futures
markets so that we will have volumes, brokerage fees, and something to trade''. We have
to look at futures market in a bigger perspective -- what is the role for commodity futures
in India's economy?
In India agriculture has traditionally been an area with heavy government intervention.
Government intervenes by trying to maintain buffer stocks, they try to fix prices, and
they have import-export restrictions and a host of other interventions. Many economists
think that we could have major benefits from liberalization of the agricultural sector.
In this case, the question arises about who will maintain the buffer stock, how will we
smoothen the price fluctuations, how will farmers not be vulnerable that tomorrow the
price will crash when the crop comes out, how will farmers get signals that in the futurethere will be a great need for wheat or rice. In all these aspects the futures market has a
very big role to play.
If we think there will be a shortage of wheat tomorrow, the futures prices will go up
today, and it will carry signals back to the farmer making sowing decisions today. In this
fashion, a system of futures markets will improve cropping patterns.
Next, if I am growing wheat and am worried that by the time the harvest comes out
prices will go down, then I can sell my wheat on the futures market. I can sell my wheat
at a price, which is fixed today, which eliminates my risk from price fluctuations. These
days, agriculture requires investments -- farmers spend money on fertilizers, high
yielding varieties, etc. They are worried when making these investments that by the time
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the crop comes out prices might have dropped, resulting in losses. Thus a farmer would
like to lock in his future price and not be exposed to fluctuations in prices.
The third is the role about storage. Today we have the Food Corporation of India, which
is doing a huge job of storage, and it is a system, which -- in my opinion -- does not
work. Futures market will produce their own kind of smoothing between the present and
the future. If the future price is high and the present price is low, an arbitrager will buy
today and sell in the future. The converse is also true, thus if the future price is low the
arbitrageur will buy in the futures market. These activities produce their own "optimal"
buffer stocks, smooth prices. They also work very effectively when there is trade in
agricultural commodities; arbitrageurs on the futures market will use imports and exports
to smooth Indian prices using foreign spot markets.
In totality, commodity futures markets are a part and parcel of a program for agricultural
liberalization. Many agriculture economists understand the need of liberalization in the
sector. Futures markets are an instrument for achieving that liberalization
The NCDEX System
Every market transaction consists of three components i.e. trading, clearing andsettlement. A brief overview of how transactions happen on the NCDEXs market.
TRADING
The trading system on the NCDEX provides a fully automated screen based
trading for futures on commodities on a nationwide basis as well as online monitoring
and surveillance mechanism. It supports an order driven market and provides complete
transparency of trading operations. Order matching is essential on the basis of
commodity, its price, time and quantity.
All quantity fields are in units and price in rupees. The exchange specifies the unit
of trading and the delivery unit for futures contracts on various commodities. The
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exchange notifies the regular lot size and tick size for each of the contracts traded from
time to time. When any order enters the trading system, it is an active order. It tries to
finds 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. NCDEX trades commodity futures
contracts having one month, two month and three month expiry cycles. All contracts
expire on the 20th of the expiry month. Thus a January expiration contract would expire
on the 20th of January and a February expiry contract would cease trading on the 20th of
February. If the 20th of the expiry month is a trading holiday, the contracts shall expire
on the previous trading day. New contracts will be introduced on the trading day
following the expiry of the near month contract.
CLEARING
National Securities Clearing Corporation Limited (NSCCL) undertakes clearing
of trades executed on the NCDEX. The settlement guarantee fund is maintained and
managed by NCDEX. Only clearing members including professional clearing members
(PCMs) only are entitled to clear and settle contracts through the clearing house. AtNCDEX, after the trading hours on the expiry date, based on the available information,
the matching for deliveries takes place firstly, on the basis of locations and then
randomly, keeping in view the factors such as available capacity of the vault/warehouse,
commodities already deposited and dematerialized and offered for delivery etc. Matching
done by this process is binding on the clearing members. After completion of the
matching process, clearing members are informed of the deliverable/ receivable positions
and the unmatched positions. Unmatched positions have to be settled in cash. The cash
settlement is only for the incremental gain/loss as determined on the basis of final
settlement price.
SETTLEMENT
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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 the final MTM settlement in respect of admitted deals in futures contracts
are cash settled by debiting/crediting the clearing accounts of clearing members (CM)
with the respective clearing bank. All positions of a CM, brought forward, created during
the day or closed out during the day, are market to market at the daily settlement price or
the final settlement price at the close of trading hours on a day. On the date of expiry, the
final settlement price is the spot price on the expiry day. The responsibility of settlement
is on a trading cum clearing member for all trades done on his own account and his
clients trades.
A professional clearing member is responsible for settling all the
participants trades, which he has confirmed to the exchange. On the expiry date of a
futures contract, members submit delivery information through delivery request window
on the trader workstations provided by NCDEX for all open positions for a commodity
for all constituents individually. NCDEX on receipt of such information matches the
information and arrives at delivery position for a member for a commodity. The seller
intending to make delivery takes the commodities to the designated warehouse.
These commodities have to be examined by the exchange specified . The
commodities have to meet the contract specifications with allowed variances. If the
commodities meet the specifications, the warehouse accepts them. Warehouse then
ensures that the receipts get updated in the depository system giving a credit in the
depositors electronic account. The seller the gives the invoice to his clearing member,
who would courier the same to the buyers clearing member. On an appointed date, the
buyer goes to the warehouse and takes physical possession of the commodities.
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OBSERVATIONS:
Characteristics of commodity markets
In commodity futures market, the calculation of profit and loss will be slightly different
than on a normal stock exchange. The main concepts in commodity market are:
1) Margins.
In the futures market, margin refers to the initial deposit of good faith made into an
account in order to enter into a futures contract. This margin is referred to as good faith
because it is this money that is used to debit any losses.
When you open a futures account, the futures exchange will state a minimum amount of
money that you must deposit into your account. This original deposit of money is called
the initial margin. When your contract is liquidated, you will be refunded the initial
margin plus or minus any gains or losses that occur over the span of the futures contract.
In other words, the amount in your margin account changes daily as the market fluctuates
in relation to your futures contract. The minimum-level margin is determined by the
futures exchange and is usually 5% to 10% of the futures contract. These predetermined
initial margin amounts are continuously under review: at times of high market volatility,
initial margin requirements can be raised.
The initial margin is the minimum amount required to enter into a new futures contract,but the maintenance marginis the lowest amount an account can reach before needing to
be replenished. For example, if your margin account drops to a certain level because of a
series of daily losses, brokers are required to make a margin call and request that you
make an additional deposit into your account to bring the margin back up to the initial
amount.
E.g. - Let's say that you had to deposit an initial margin of $1,000 on a contract and the
maintenance margin level is $500. A series of losses dropped the value of your account
to $400. This would then prompt the broker to make a margin call to you, requesting a
deposit of at least an additional $600 to bring the account back up to the initial margin
level of $1,000.
Word to the wise: when a margin call is made, the funds usually have to be delivered
immediately. If they are not, the commodity brokerage can have the right to liquidate
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your Commodity position completely in order to make up for any losses it may have
incurred on your behalf.
2) Leverage
Leverage refers to having control over large cash amounts of a commodity with
comparatively small levels of capital. In other words, with a relatively small amount of
cash, you can enter into a futures contract that is worth much more than you initially have
to pay (deposit into your margin account). It is said that in the futures market, more than
any other form of investment, price changes are highly leveraged, meaning a small
change in a futures price can translate into a huge gain or loss.
Futures positions are highly leveraged because the initial margins that are set by the
exchanges are relatively small compared to the cash value of the contracts in question
(which is part of the reason why the futures market is useful but also very risky). The
smaller the margin in relation to the cash value of the futures contract, the higher the
leverage. So for an initial margin of $5,000, you may be able to enter into a long position
in a futures contract for 30,000 pounds of coffee valued at $50,000, which would be
considered highly leveraged investments.
You already know that the futures market can be extremely risky, and therefore not for
the faint of heart. This should become more obvious once you understand the arithmeticof leverage. Highly leveraged investments can produce two results: great profits or even
greater losses.
Due to leverage, if the price of the futures contract moves up even slightly, the profit gain
will be large in comparison to the initial margin. However, if the price just inches
downwards, that same high leverage will yield huge losses in comparison to the initial
margin deposit. For example, say that in anticipation of a rise in stock prices across the
board, you buy a futures contract with a margin deposit of $10,000, for an index
currently standing at 1300. The value of the contract is worth $250 times the index (e.g.
$250 x 1300 = $325,000), meaning that for every point gain or loss, $250 will be gained
or lost.
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If after a couple of months, the index realized a gain of 5%, this would mean the index
gained 65 points to stand at 1365. In terms of money, this would mean that you as an
investor earned a profit of $16,250 (65 points x $250); a profit of 162%!
On the other hand, if the index declined 5%, it would result in a monetary loss of $16,250
a huge amount compared to the initial margin deposit made to obtain the contract. This
means you still have to pay $6,250 out of your pocket to cover your losses. The fact that
a small change of 5% to the index could result in such a large profit or loss to the investor
(sometimes even more than the initial investment made) is the risky arithmetic of
leverage. Consequently, while the value of a commodity or a financial instrument may
not exhibit very much price volatility, the same percentage gains and losses are much
more dramatic in futures contracts due to low margins and high leverage.
3) Pricing and Limits
Contracts in the Commodity futures market are a result of competitive price discovery.
Prices are quoted as they would be in the cash market: in dollars and cents or per unit
(gold ounces, bushels, barrels, index points, percentages and so on).
Prices on futures contracts, however, have a minimum amount that they can move. These
minimums are established by the futures exchanges and are known as ticks. For example,the minimum sum that a bushel of grain can move upwards or downwards in a day is a
quarter of one U.S. cent. For futures investors, it's important to understand how the
minimum price
movement for each commodity will affect the size of the contract in question. If you had
a grain contract for 3,000 bushels, a minimum of $7.50 (0.25 cents x 3,000) could be
gained or lost on that particular contract in one day.
Futures prices also have a price change limit that determines the prices between which
the contracts can trade on a daily basis. The price change limit is added to and subtracted
from the previous day's close, and the results remain the upper and lower price boundary
for the day.
Say that the price change limit on silver per ounce is $0.25. Yesterday, the price per
ounce closed at $5. Today's upper price boundary for silver would be $5.25 and the lower
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boundary would be $4.75. If at any moment during the day the price of futures contracts
for silver reaches either boundary, the exchange shuts down all trading of silver futures
for the day. The next day, the new boundaries are again calculated by adding and
subtracting $0.25 to the previous day's close. Each day the silver ounce could increase or
decrease by $0.25 until an equilibrium price is found. Because trading shuts down if
prices reach their daily limits, there may be occasions when it is NOT possible to
liquidate an existing futures position at will.
The exchange can revise this price limit if it feels it's necessary. It's not uncommon for
the exchange to abolish daily price limits in the month that the contract expires (delivery
or spot month). This is because trading is often volatile during this month, as sellers and
buyers try to obtain the best price possible before the expiration of the contract.
In order to avoid any unfair advantages, the CTFC and the Commodity futures exchanges
impose limits on the total amount of contracts or units of a commodity in which any
single person can invest. These are known as position limits and they ensure that no one
person can control the market price for a particular commodity.
Strategies for trading in commodity market.
Futures contracts try to predict what the value of an index or commodity will be at somedate in the future. Speculators in the futures market can use different strategies to take
advantage of rising and declining prices. The most common strategies are known as
going long, going short and spreads.
1) Going Long
When an investor goes long, that is, enters a contract by agreeing to buy and receive
delivery of the underlying at a set price, it means that he or she is trying to profit from an
anticipated future price increase.
For example, let's say that, with an initial margin of $2,000 in June, Joe the speculator
buys one September contract of gold at $350 per ounce, for a total of 1,000 ounces or
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$350,000. By buying in June, Joe is going long, with the expectation that the price of
gold will rise by the time the contract expires in September.
By August, the price of gold increases by $2 to $352 per ounce and Joe decides to sell the
contract in order to realize a profit. The 1,000 ounce contract would now be worth
$352,000 and the profit would be $2,000. Given the very high leverage (remember the
initial margin was $2,000), by going long, Joe made a 100% profit!
Of course, the opposite would be true if the price of gold per ounce had fallen by $2. The
speculator would have realized a 100% loss. It's also important to remember that
throughout the time the contract was held by Joe, the margin may have dropped below
the maintenance margin level. He would have thus had to respond to several margin
calls, resulting in an even bigger loss or smaller profit.
2) Going Short:
A speculator who goes short, that is, enters into a futures contract by agreeing to sell and
deliver the underlying at a set price, is looking to make a profit from declining price
levels. By selling high now, the contract can be repurchased in the future at a lower price,
thus generating a profit for the speculator.
Let's say that Sara did some research and came to the conclusion that the price of Crude
Oil was going to decline over the next six months. She could sell a contract today, in
November, at the current higher price, and buy it back within the next six months after
the price has declined. This strategy is called going short and is used when speculators
take advantage of a declining market.
Suppose that, with an initial margin deposit of $3,000, Sara sold one May crude oil
contract (one contract is equivalent to 1,000 barrels) at $25 per barrel, for a total value of
$25,000.
By March, the price of oil had reached $20 per barrel and Sara felt it was time to cash in
on her profits. As such, she bought back the contract which was valued at $20,000. By
going short, Sara made a profit of $5,000! But again, if Sara's research had not been
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thorough, and she had made a different decision, her strategy could have ended in a big
loss.
3) Spreads
As going long and going short, are positions that basically involve the buying or selling
of a contract now in order to take advantage of rising or declining prices in the future.
Another common strategy used by commodity traders is called spreads. Spreads involve
taking advantage of the price difference between two different contracts of the same
commodity. Spreading is considered to be one of the most conservative forms of trading
in the futures market because it is much safer than the trading of long / short (naked)
futures contracts.
There are many different types of spreads, including:
Calendar spread:
This involves the simultaneous purchase and sale of two futures of the same type, having
the same price, but different delivery dates.
Inter-Market spread:
Here the investor, with contracts of the same month, goes long in one market and shortin another market. For example, the investor may take Short June Wheat and Long June
Pork Bellies.
Inter-Exchange spread:
This is any type of spread in which each position is created in different futures
exchanges. For example, the investor may create a position in the Chicago Board of
Trade, CBOT and the London International Financial Futures and Options Exchange,
LIFFE.
Trade in commodity market:
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You can invest in the futures market in a number of different ways, but before taking the
plunge, you must be sure of the amount of risk you're willing to take. As a futures
trader, you should have a solid understanding of how the market works and contracts
function. You'll also need to determine how much time, attention, and research you can
dedicate to the investment. Talk to your broker and ask questions before opening a
futures account.
Unlike traditional equity traders, futures traders are advised to only use funds that have
been earmarked as risk capital. Once you've made the initial decision to enter the market,
the next question should be, how? Here are three different approaches to consider:
Self Directed
Full Service
Commodity pool
1) Self Directed:As an investor, you can trade your own account, without the aid or advice of a
Commodity broker. This involves the most risk because you become responsible for
managing funds, ordering trades, maintaining margins, acquiring research, and coming
up with your own analysis of how the market will move in relation to the commodity in
which you've invested. It requires time and complete attention to the market.
2) Full Service:
Another way to participate in the market is by opening a managed account, similar to an
equity account. Your broker would have the power to trade on your behalf, following
conditions agreed upon when the account was opened. This method could lessen your
financial risk, because a professional broker would be assisting you, or making informed
decisions on your behalf. However, you would still be responsible for any losses incurred
and margin calls.
3) Commodity Pool
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A third way to enter the market, and one that offers the smallest risk, is to join a
commodity pool. Like a mutual fund, the commodity pool is a group of commodities
which can be invested in. No one person has an individual account; funds are combined
with others and traded as one. The profits and losses are directly proportionate to the
amount of money invested. By entering a commodity pool, you also gain the opportunity
to invest in diverse types of commodities. You are also not subject to margin calls.
However, it is essential that the pool be managed by a skilled broker, for the risks of the
futures market are still present in the commodity pool
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ANALYSIS
OPPORTUNITIES IN COMMODITY TRADING
Speculation: Commercial speculation, i.e. speculation by buyers and sellers of
commodities, has been used since the 19th century to enable commodity traders and
processors to protect themselves against short-term price volatility. Buyers are protected
against sudden price increases, sellers against sudden price falls. For commodity buyers
and sellers, commercial speculation is a form of price insurance. Non-commercial
speculation takes place not to protect against or hedge price risk, but to benefit by an-
ticipating and betting long for prices to go up or short for prices to go down. Non-
commercial speculators provide capital to enable the ongoing function of the market as
commercial speculators liquidate their contract positions by paying for the contracted
commodity or selling the contract to offset the risk of other contract positions held. Non-
commercial speculation is an investment, but one that can overlap with the interests of
agriculture when appropriately regulated.
However, todays speculation has become excessive relative to the value of the
commodity as determined by supply and demand and other fundamental factors. For
example, according to the FAO, as of April 2008 corn volatility was 30 percent andsoybean volatility 40 percent beyond what could be accounted for by market
fundamentals.11 Price volatility has become so extreme that by July some commercial or
traditional speculators could no longer afford to use the market to hedge risks effec-
tively.12 Prices are particularly vulnerable to being moved by big speculative bets
when a commoditys supply and demand relationship is tight due to production
failures, high demand and/or lack of supply management mechanisms.
The futures contract is the fundamental building block from which other speculative
instruments are built. The contract obligates parties to buy or sell a specified quantity of a
commodity at a specified price at an agreed date in the near future, usually one to three
months from the contract date for agricultural commodities. An options contract does not
oblige the parties and costs less to execute but provides less price protection. Futures and
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options contracts enable those who buy and sell commodities to manage short-term price
risks and to discover the price at which those contracts settle as the due date for
fulfilling the contract approaches.
According to UNCTAD, futures contracts and other commodity derivatives are not
capable of mitigating the causes of commodity price volatility, such as failure to
manage structural oversupply of commodities. Failure to regulate commodity derivatives
adequately has not only contributed to huge increases in food import bills and food
insecurity, but also to making futures and options contracts unavailable or too expensive
for many farmers and some agribusinesses to use to manage price risk.
In the U.S., futures contracts were useful and affordable as long as futures prices and
cash (spot) market prices converged as the date for the contracts execution approached.
Futures prices helped commodities traders to set a benchmark price in the cash market.
With convergence came some degree of contract predictability needed to calculate when
to buy or sell. Similarly, option contracts, in which buyers have the right but not the
obligation15 to buy or sell a commodity at a specified price at a specified time, relied on
price convergence to provide some contract predictability.
As prices have become more volatile and convergence less predictable since 2006, thefutures market has lost its price discovery and risk management functions for many
market participants.16 According to the FAO, as of March 2008, volatility in wheat
prices reached 60 percent beyond what could be explained by supply and demand
factors.17 Non-commercial commodities speculation was a factor, though not the only
one, that impeded price convergence and induced extreme market volatility, testified the
National Grain and Feed Association (NGFA) to Congress. However, the NGFA and
other groups cautioned against over-regulating the commodities markets, lest there be too
little capital in the market to enable commercial speculators to hedge their risks with
futures contracts.
Hedging: Hedging in the futures market is a two-step process. Depending upon the
hedger's cash market situation, he will either buy or sell futures as his first position. For
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instance, if he is going to buy a commodity in the cash market at a later time, his first
step is to buy futures contracts. Or if he is going to sell a cash commodity at a later
time, his first step in the hedging process is to sell futures contracts.
The second step in the process occurs when the cash market transaction takes place. At
this time the futures position is no longer needed for price protection and should
therefore be offset (closed out). If the hedger was initially long (long hedge), he would
offset his position by selling the contract back. If he was initially short (short hedge), he
would buy back the futures contract. Both the opening and closing positions must be for
the same commodity, number of contracts, and delivery month.
Basic Commodity Hedging Strategy
We'll assume we are talking about an orange juice producer first. This guy has to sell his
orange juice in six months. The problem is that any price drop in the orange juice market
would have a negative effect on what he can get for his crop once it's harvested.
He can get around a large part of that risk by establishing a basic short commodity
hedging strategy in the orange juice futures market. This gives him some protection, sort
of like an insurance policy against large price fluctuations.
How to Put on a Short Hedge in Commodity Futures
Let's say the current price for orange juice in the cash market on May 1st is 90 cents per
pound *fictional.* The OJ grower feels that's a fair price to cover his costs and make a
profit. He also knows that he will have about 15,000 pounds of OJ to bring to the market
at harvest in six months. What he does is sell his crop now using the futures market to
protect that 90 cent sale price in the future.
He goes into the futures market and sells 1 contract *15,000 lbs of OJ* at the current
market price of $1 per pound. Now lets fast forward 1 month into the future and see how
this protects his profit margins.
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On June 1st the futures price of OJ had dropped to 70 cents per pound and the cash or
current price for OJ drops to 65 cents per pound because there looks to be a bumper crop
of OJ this year.
It doesn't look good as The OJ producer needed to get 90 cents a pound to cover his costs
and make a profit. Looks like he won't be buying his kid the GI Joe with the "Kung Fu"
grip because he'll be getting $3750 less for his OJ crop.
The decimal point has been omitted and the calculation looks like this:
9000 - 6500 = 2500 X 1.50 = $3750 loss per contract. But wait
What about the OJ contract he sold in the futures market? Remember he sold 1 contractat $1 per pound? If he were to buy that contract back right now he would only have to
pay 70 cents a pound. He has a profit of $4500 for the futures contract.
The decimal point has been omitted and the calculation looks like this
10000 - 7000 = 3000 X 1.50 = $4500 profit per contract.
Now let's analyze what the hedge has done to partially protect the OJ grower's price risk.
The $3750 cash loss is offset by the $4500 profit in the futures market, leaving him with
a theoretical profit on the hedging strategy of $750. Not a bad deal.
Note that the cash price and the futures price didn't fluctuate in tandem. The reason is
that the cash price is influenced by factors such as storage and transportation costs. They
will most likely, but not always follow the same trend higher or lower, but rarely at the
same rate.
Let's go another month into the future. On July 1st another report shows that the first
report overestimated the OJ supply and the price has risen to $1.20 a pound and the cash
price of OJ has gone up to $1.05 because of the simple economics of supply and demand.
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The grower can now get $2250 more for his for his OJ. The calculation looks like this:
10500 - 9000 = 1500 X $1.50 = $2250 more profitbut hold the phone. He shouldn't run
out and buy his wife that new BMW he promised her just yet. Let's see what happened
with the futures contract hedge.
It will cost him $1.20 per pound to buy back the futures contract he sold at $1. That gives
him a loss of $3000 for his futures hedge. The calculation looks like this: 10000 - 12000
= 2000 X $1.50 = $3000 loss.
Now let's see how the commodity futures hedge has limited his potential profit margin.
The $2250 gain on the cash price of the OJ crop is offset by the $3000 loss he currently
has on his commodity futures hedge. The net result of liquidating the hedge right now
would be a loss of $750.
This example shows the importance of maintaining the hedge (regardless of price
fluctuations) until the crop is ready for delivery. The cash price and the futures price will
converge and become almost equal at the expiration month of the futures contract except
for costs such as carrying charges (also known as "the basis").
By liquidating the futures contract and breaking the protection of the hedge before
expiration, the grower then becomes at risk to price fluctuations. He also loses money on
the costs associated with the futures portion of the hedge itself.
How to Put on a Long Hedge in Commodity Futures
The counterpart to the grower and producer is the supplier or processor. In our example
here, the processor will need to buy OJ and process it for consumption or other uses.
Since the processor must make a future purchase, she wants to protect herself from price
increases at the time of delivery.
She will use the futures market as an insurance policy against price risk by putting on a
"Long Hedge" in the futures market by buying futures now, thus locking in her price plus
the cost of placing the long hedge in commodity futures.
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We can look at the price variations and how they affect the processor by simply inverting
all the figures from our short hedge example. A rise in the futures price would be a gain
for the processor while a fall in the futures price would be a loss.
A rise in the cash price would be a loss to the processor while a fall in the cash price
would equal a gain. The risk of future price increases is transferred to the futures market
because of the hedge.
There you have it. A basic commodity hedging strategy and how producers and suppliers
use the futures markets to protect price variations and profits. This strategy is used in all
commodity markets from financials to livestock, agricultural products and even precious
metals.
Hedging is generally not considered risky if it is based on covering short-term
requirements. However, if the hedging party places a wrong bet, then they may miss out
on potential savings. For instance, if a copper manufacturer has a capacity of 200 tonne
and decides to sell 300 tonne on the futures exchange the remaining 100 tonne is
considered as speculation in the market. If prices fall then he stands to benefit, however if
prices go up the 200 tonne he produces can be delivered on the exchange but he would
have to incur losses on the additional 100 tonne.
Arbitrage:
Arbitrage refers to the opportunity of taking advantage between the price difference
between two different markets for that same stock or commodity.
In simple terms one can understand by an example of a commodity selling in one market
at price x and the same commodity selling in another market at price x + y. Now this y is
the difference between the two markets is the arbitrage available to the trader. The tradeis carried simultaneously at both the markets so theoretically there is no risk. (This
arbitrage should not be confused with the word arbitration, as arbitration is referred to
solving of dispute between two or more parties.)
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The person who conducts and takes advantage of arbitrage in stocks, commodities,
interest rate bonds, derivative products, forex is know as an arbitrageur.
Arbitrage opportunities exist between different markets because there are different kind
of players in the market, some might be speculators, others jobbers, some market-
markets, and some might be arbitrageurs.
The simultaneous purchase and sale of something at different prices sounds like a purely
hypothetical transaction that shouldn't ever exist. But various flavors of arbitrage or near-
arbitrage do exist, offering profits that are attractive compared to the risk borne by the
arbitrageur.
Before the NSE came into existence, the price of the same stock varied across exchanges.
Therefore, it was easy to make money by buying at one exchange and selling at a higher
price on another. But nowadays, with real-time transfer of information, the difference
between the prices of the same stock on different exchanges is minuscule. Thats why
people play more in derivatives and arbitrage between the price differences in the cash
and the futures markets. In the Indian context arbitrage is largely concentrated in stock
futures; index arbitrage is not very popular as yet.
In the bull market, investors are willing to pay a slight premium to the underlying cash
price in the futures market as they expect the stock to rise in the short term and are
willing to pay the premium (discounts do also happen at times of dividend and
bearishness in the stocks).
BENEFITS OF ARBITRAGE:
Security
Greater Flexibility
Higher Returns,
Risk Free Investment
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GOLD IN INDIA COMMODITY MARKET:
Importance and Uses:
Gold has mainly three types of uses: Jewellery Demand, Investment Demand and
Industrial uses.
Jewellery Demand- Jewellery consistently accounts for around three-quarters of gold
demand. In terms of retail value, the USA is the largest market for gold jewellery,
whereas India is the largest consumer in volume terms, accounting for 25% of demand in
2007.
Investment demand- Investment demand in gold has increased considerably in recent
years. Since 2003, investment has representing the strongest source of growth in demand,
with an increase in value terms to the end of 2007 of around 280%.
Industrial Demand- Industrial and dental uses account for around 13% of gold demand
(an annual average of over 425 tonnes from 2003 to 2007 inclusive.
Major Gold Mines in India
There is a huge mismatch between demand and primary supply in India, the balance
being made up by imports. The only major gold mine currently in production is the Hutti
mine, owned by Hutti Gold Mines Company Limited, which produces around 3 tons ofgold a year. Hindustan Copper also produces some gold as a by-product
.
State 2005-06 2006-07 2007-08
Karnataka 2.846 2.334 2.831
Jharkhand 0.201 0.154 0.027
Gujarat 6.710 10.335 9.135
Total 9.757 12.823 11.993
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As given in the above table, gold production in India is ruling lower in recent years.
Karnataka was the leading producer of this precious metal with the output ranging from 2
to 3 tons per annum during 2005-06 and 2007-08. Jharkhand also produces small
quantity of gold.
Gold Demand in India
Gold, the ultimate safe haven in troubled times, remained the hot commodity throughout
the year. It scaled new heights in the global markets and in India, which is the largest
buyer of the metal.
Year (IN TONNES) World (IN TONNES) % share of WorldDemand
2004 617.7 2961.5 20.86
2005 721.6 3091.9 23.34
2006 721.9 2681.9 26.92
2007 769.2 2810.9 27.36
2008 660.2 2906.8 22.71
Source: GFMS
Indian demand for Gold accounts for on an avg. 25% share of world gold demand. In
2008, demand for gold has decreased in India because of high price amid global financial
crisis.
CHINESE COMMODITY MARKET (GOLD)
Introduction
Gold plays a vital role in Chinese culture. The Chinese have a strong affinity to gold
when compared with Western countries. Gold has been present in Chinese history since
the time of the Han Dynasty and even today is regarded as a sign of prosperity, an
ornament, a currency and an