united nations conference on trade and developmentunctad.org/sections/wcmu/docs/c1em33p12_en.pdf ·...

UNITED NATIONS CONFERENCE ON

TRADE AND DEVELOPMENT

Expert Meeting on the Trade and Development Implications of Financial Services and Commodity Exchanges (Part I)

Item 3: Trade and Development Implications

of Commodity Exchanges

3 September 2007

"Regulatory framework for the commodity futures market: An Indian perspective"

by

Mr. B. C. Khatua

Chairman Forward Markets Commission, India

The views expressed are those of the author and do not necessarily reflect the views of the UNCTAD Secretariat, nor do they imply the expression of any opinion whatsoever on the part of the secretariat of UNCTAD concerning the legal status of any country, territory, city or area, or of its authorities or concerning the definition of its frontiers or boundaries.

Forward Markets CommissionForward Markets Commission 119/10/20079/10/2007

FORWARD MARKETS COMMISSION

GOVERNMENT OF INDIA

‘EVEREST’, 3RD FLOOR, 100, MARINE DRIVE,MUMBAI – 400 002

INDIATel : 2281 1262 / 2281 1429

Fax : 2281 2086E-mail : [email protected]

Website : www.fmc.gov.in

9/10/2007 2Forward Markets Commission

REGULATORY FRAMEWORKREGULATORY FRAMEWORKFOR THE COMMODITYFOR THE COMMODITYFUTURES MARKET :FUTURES MARKET :

AN INDIAN PERSPECTIVEAN INDIAN PERSPECTIVE


Scheme of PresentationScheme of Presentation

IntroductionIntroduction Economic Functions of the Futures MarketsEconomic Functions of the Futures Markets Exponential GrowthExponential Growth RegulationRegulation Amendments proposed to the FC(R ) Act 1952Amendments proposed to the FC(R ) Act 1952 Important Developmental and Regulatory StepsImportant Developmental and Regulatory Steps

TakenTaken The FutureThe Future

9/10/2007 Forward Markets Commission 4

1. Introduction1. Introduction


Commodity Futures Market in IndiaCommodity Futures Market in India

HistoryHistory More than 125 yrs oldMore than 125 yrs old

Bombay Cotton Trade AssociationBombay Cotton Trade Association –– 18751875 Active futures markets in various commodities like Bullion,Active futures markets in various commodities like Bullion,

Oilseeds, Wheat, Jute, Cotton etc.Oilseeds, Wheat, Jute, Cotton etc. During the World War II Futures trading in most ofDuring the World War II Futures trading in most of

the commodities suspended.the commodities suspended. 1952 Forward Contracts Regulation Act passed.1952 Forward Contracts Regulation Act passed. Till the late 1990s futures trading prohibited /Till the late 1990s futures trading prohibited /

suspended in all major commodities.suspended in all major commodities.


Reopening of the Markets.Reopening of the Markets. Liberalization of economy started in 1991.Liberalization of economy started in 1991.

Futures trading permitted in an increasing numberFutures trading permitted in an increasing numberof commodities after 1991.of commodities after 1991. Coffee, Jute, Sugar, Edible Oilseed complex.Coffee, Jute, Sugar, Edible Oilseed complex.

TheThe ““National Agricultural PolicyNational Agricultural Policy”” announced inannounced inJuly 2000. Emphasized the need for allowingJuly 2000. Emphasized the need for allowingfutures trading in agricultural commodities forfutures trading in agricultural commodities forrisk management and price discovery.risk management and price discovery.


Futures trading permitted in all the commoditiesFutures trading permitted in all the commodities(April 2003)(April 2003)

3 Multi Commodity National Exchanges3 Multi Commodity National Exchangesestablished on eestablished on e--platform.platform.

Futures Trading is not prohibited in anyFutures Trading is not prohibited in anycommoditycommodity


2.2. EconomicEconomicFunctions of theFunctions of theFutures MarketFutures Market


Economic Functions of the FuturesEconomic Functions of the FuturesMarketMarket

Market Creation:Market Creation: Improved market accessImproved market access Reduced transaction costsReduced transaction costs Risk free tradingRisk free trading

Improvement in the Efficiency of EconomyImprovement in the Efficiency of Economy:: Infrastructure and logistics improvement.Infrastructure and logistics improvement. Product quality improvement.Product quality improvement. Contract efficiencyContract efficiency –– Contract standardization.Contract standardization.


Economic Functions of the FuturesEconomic Functions of the FuturesMarketMarket ((……contdcontd .).)

Price Discovery:Price Discovery: Improved price formationImproved price formation –– information asymmetryinformation asymmetry

across spot marketsacross spot markets removed.removed. Integrate spot markets and empower producers.Integrate spot markets and empower producers. Across present and future times.Across present and future times.

Price Risk Management:Price Risk Management: Producers, processors, exporters,Producers, processors, exporters, stockistsstockists.. Low hedging costs.Low hedging costs.


Economic Benefits to theEconomic Benefits to theStakeholdersStakeholders

Benefits to both market participants and nonBenefits to both market participants and non––participants.participants.

NonNon-- Participants benefit from price discovery:Participants benefit from price discovery: FarmersFarmers -- Choice of crop during planting.Choice of crop during planting.

-- Choice of time when to sale produce.Choice of time when to sale produce. ProcessorsProcessors -- Choice of time when to buyChoice of time when to buy

Market participants can hedge their price risks.Market participants can hedge their price risks.


Economic Benefits to the HedgersEconomic Benefits to the Hedgers

Farmers /Farmers / :: hedge their produce and lock in ahedge their produce and lock in aProducersProducers price.price.

ExporterExporter :: hedge against an increase in thehedge against an increase in theprice of his inputs at the timeprice of his inputs at the timeof meeting export commitments.of meeting export commitments.

StockistStockist :: hedge the value of his inventoryhedge the value of his inventoryagainst a price declineagainst a price decline

ProcessorProcessor :: hedge against an increase in thehedge against an increase in theprice of raw materialprice of raw material


3.3. Exponential GrowthExponential Growthof Indian Futures Marketof Indian Futures Market


Exponential GrowthExponential Growth

24 Recognized Exchanges24 Recognized Exchanges 33 ‘‘NationalNational’’ ExchangesExchanges –– MultiMultiCommodity tradingCommodity trading

–– MCX, NCDEX and NMCEMCX, NCDEX and NMCE

21 Regional Exchanges21 Regional Exchanges –– Product specificProduct specific Futures trading presently conducted in overFutures trading presently conducted in over

100 commodities.100 commodities. Volume and value of tradingVolume and value of trading


1. RajdhaniOil andOilseeds Ex.,Delhi andE

commodities,Delhi

2. HaryanaCommodityExchange,Hissar

3. VijayBeoparChamber,Muzaffarnagar

4. MeerutAgroCommoditiesExchange,Meerut

5. ChamberofCommerce,Hapur

6. BhatindaOm & OilExchangeLtd.,Bhatinda

7. BikanerCommodityExchange,Bikaner

8. BullionAssociation,Jaipur

9.Surendranagar Cotton Oil& OilseedsAsso.

10. Rajkot Seeds,Oilse & BullionMerchants Asso.Rajkot

11. NMCE,Ahmedabad

AhmedabadCommodityExchange

12. Central IndiaCommercial Ex.,Gwalior

13. NBOT, Indore

14.MultiCommodityExchange, Mumbai

NationalCommodity &DerivativeExchange, Mumbai

BombayCommodityExchange, Mumbai

East India CottonAssociation Ltd.,Mumbai

E-Sugar India Ltd.,Mumbai

15. The Spices &Oilseeds Exchange,Sangli

16. IPSTA, Kochi

FCEI, Kochi

17. The East IndiaJute & HessianExchange, Kolkatta

Bhatinda Om & Oil Exchange Ltd., Bhatinda

Vijay Beopar Chamber, Muzaffarnagar

Meerut Agro Commodities Exchange, Meerut

Chamber of Commerce, Hapur

Rajdhani Oil and Oilseeds Ex., Delhi andE commodities, Delhi

The East India Jute & HessianExchange, Kolkatta

Central India Commercial Ex., Gwalior

National Board Of Trade, Indore

The Spices & Oilseeds Exchange,Sangli

India Pepper and Spice TradeAssociation, Kochi and

First Commodity Exchange of IndiaLtd., Kochi

Multi Commodity Exchange,Mumbai

National Commodity &Derivative Exchange, Mumbai

Bombay CommodityExchange, Mumbai

East India Cotton AssociationLtd., Mumbai

E-Sugar India Ltd., Mumbai

Haryana Commodity Exchange,Hissar

Bikaner CommodityExchange, Bikaner

Bullion Association, Jaipur

Surendranagar CottonOil & Oilseeds Asso.,Surendranagar

Rajkot Seeds, Oilseeds& Bullion MerchantsAsso. Rajkot

National MultiCommodity Exchange,Ahmedabad

AhmedabadCommodity Exchange,Ahmedabad

Volume and Value of TradeVolume and Value of TradeCommodity DerivativesCommodity Derivatives

273.861273.86117.98017.980N.AN.A20002000--0101

344.954344.95421.77221.772N.A.N.A.20012001--0202

665.307665.30731.44631.446N.AN.A20022002--0303

1,293.6371,293.63749.29949.299N.AN.A20032003--0404

5,717.5965,717.596194.210194.21015.215.220042004--0505

21,544.71821,544.718668.509668.50943.643.620052005--0606

36,769.26736,769.267612.929612.92970.770.720062006--0707

11797.65711797.657177.421177.42128.628.620072007--0808(April(April--July)July)

Value *Value *(in Rs. Billion)(in Rs. Billion)

VolumeVolume(In(In MnMn.. tonnestonnes))

Contract **Contract **(In(In MnMn. Nos.). Nos.)

YearYear

*Exchange Rate : Rs.44 = 1US $ (Present rate Rs.41 = 1US $)

** Three National Echanges only

Value of Trade at Major Commodity ExchangesVolume of Trading – In Million tonnes

Value - In Rs. Billion

11797.657177.42136769.267612.92921551.220678.871Grand Total

2007-08(July’07)

2006-072005-2006Name of the ExchangeSr.No

ValueVolume oftrading

ValueVolume ofTrading

ValueVolume ofTrading

8351.16279.70822937.24159.529616.326140.965Multi Commodity Exchange of IndiaLtd., Mumbai

1.

2929.05884.83611672.79383.9010666.864483.034National Commodity and DerivativeExchange Ltd., Mumbai

2.

79.4240.9691127.98536.87183.8547.044The National Multi CommodityExchange of India Ltd., Ahmedabad

3.

274.8165.619748.87517.34536.83114.592National Board of Trade, Indore,4.

26.3971.25968.4133.5855.9933.515The Ahmedabad Commodity ExchangeLtd., Ahmedabad

5.

23.8711.12434.6571.9134.43172.082The Rajkot Seeds Oil & BullionMerchants Association Ltd., Rajkot

6.

65.6642.92993.7024.7881.054.66The Chamber of Commerce, Hapur7.

2.2410.20119.5491.4637.4562.746Vijai Beopar Chamber Ltd.,Muzaffarnagar

8.

0.0070.00032.511.73270.71116.066Surendranagar Cotton Oil and OilseedsAssociation Ltd., Surendranagar

9.

11782.641176.64536735.726611.08221483.511674.704Total of these above Exchanges

15.0160.77533.5411.84667.7094.167Other Commodity Exchanges


100 Commodities Available for Trading100 Commodities Available for Trading Edible oilseed complexesEdible oilseed complexes -- groundnut, mustardseed,groundnut, mustardseed,

cottonseed, sunflower, rice bran, soy oil, etc.cottonseed, sunflower, rice bran, soy oil, etc. Food grainsFood grains -- Cereals, Pulses, Maize, etc.Cereals, Pulses, Maize, etc. MetalsMetals -- Gold, Silver, Copper, Zinc, Copper,Gold, Silver, Copper, Zinc, Copper,

Aluminum etc.Aluminum etc. SpicesSpices -- Turmeric, Pepper, Cardamom, etc.Turmeric, Pepper, Cardamom, etc. FibresFibres -- Cotton, Jute, etc.Cotton, Jute, etc. Energy _ Crude Oil, Natural Gas etc.Energy _ Crude Oil, Natural Gas etc. OthersOthers -- Castorseed, Sugar,Castorseed, Sugar, JaggeryJaggery, Rubber, etc., Rubber, etc.


4.4. RegulationRegulation


Regulation

Objectives:Objectives:

To ensure that markets efficiently perform the twinTo ensure that markets efficiently perform the twineconomic functions of :economic functions of : PPrice discoveryrice discovery Price Risk managementPrice Risk management

To maintain market integrity and financial integrityTo maintain market integrity and financial integrityacross the market, the Exchanges and theacross the market, the Exchanges and theintermediaries (brokers, warehouses, assayers, etc. )intermediaries (brokers, warehouses, assayers, etc. )


Major Tools of RegulationMajor Tools of Regulation

Maintaining Financial IntegrityMaintaining Financial Integrity Capital Adequacy of Exchanges and Intermediaries.Capital Adequacy of Exchanges and Intermediaries. Payment of Adequate Margins by Intermediaries.Payment of Adequate Margins by Intermediaries.

Maintaining Market IntegrityMaintaining Market Integrity Effective Surveillance and MonitoringEffective Surveillance and Monitoring Audit of Exchanges and Intermediaries.Audit of Exchanges and Intermediaries.


Ensuring alignment of Future and SpotEnsuring alignment of Future and Spotpricesprices Threat of DeliveryThreat of Delivery Final Settlement based on correct spot pricesFinal Settlement based on correct spot prices

Investor ProtectionInvestor Protection Fair and even handed conduct of the Exchanges.Fair and even handed conduct of the Exchanges. Protection against unscrupulous IntermediariesProtection against unscrupulous Intermediaries


Fairness and Transparency in Trading, ClearingFairness and Transparency in Trading, Clearingand Settlement Processand Settlement Process Demutualised Set up of the Exchanges.Demutualised Set up of the Exchanges. Electronic TradingElectronic Trading Corporate Governance in the Exchanges.Corporate Governance in the Exchanges.


Constitution of India lists futures market and stockConstitution of India lists futures market and stockmarket in the Union List and the Centralmarket in the Union List and the CentralGovernment is given the power to legislate.Government is given the power to legislate. Spot market is regulated by the States.Spot market is regulated by the States.

Forward Contract ( Regulation) Act 1952 enacted.Forward Contract ( Regulation) Act 1952 enacted.

FC (R ) Act 1952FC (R ) Act 1952


Classification of GoodsClassification of Goods

Section 15Section 15 –– Regulated CommoditiesRegulated Commodities Section 17Section 17 –– Prohibited CommoditiesProhibited Commodities Free GoodsFree Goods –– Other than thoseOther than those u/su/s 15 and 17.15 and 17.

-- FMC may permit futures trading.FMC may permit futures trading.


Edible oilseed complexes like groundnut,Edible oilseed complexes like groundnut,mustardseed, cottonseed, sunflower, rice bran, soymustardseed, cottonseed, sunflower, rice bran, soyoil, etc.oil, etc.

Food grainsFood grains -- Wheat, Gram, Rice,Wheat, Gram, Rice, DalsDals,, BajraBajra, Maize,, Maize,etc.etc.

MetalsMetals -- Gold, Silver, Copper, Zinc, etc.Gold, Silver, Copper, Zinc, etc. SpicesSpices -- Turmeric, Pepper, etc.Turmeric, Pepper, etc. FibresFibres -- Cotton, Jute, etc.Cotton, Jute, etc. OtherOther -- Castorseed, Gur, Natural Gas, Crude Oil etc.Castorseed, Gur, Natural Gas, Crude Oil etc.

Regulated CommoditiesRegulated Commodities( Section 15)( Section 15)


Presently Futures Trading is notPresently Futures Trading is notprohibited in any commodityprohibited in any commodity U/SU/S17.17.

FMC has suspended trading in aFMC has suspended trading in afew sensitive commodities a fewfew sensitive commodities a fewmonths back.months back.


Present Scheme of RegulationThree Tier System

CENTRAL GOVERNMENTCENTRAL GOVERNMENT

FORWARD MARKETSFORWARD MARKETSCOMMISSIONCOMMISSION

EXCHANGESEXCHANGES


Central GovernmentCentral Government -- 11stst TierTier

Has powers to grant / withdraw recognition ofHas powers to grant / withdraw recognition ofExchanges.Exchanges.

Notify commodities under section 15,17 andNotify commodities under section 15,17 and18(3).18(3).

Supercede the governing body of a recognisedSupercede the governing body of a recognisedAssociation / Exchange.Association / Exchange.


FMCFMC –– thethe IIIIndnd TierTier

Approves Rules and ByeApproves Rules and Bye--laws of Exchangeslaws of Exchanges Grants trading permissions subject toGrants trading permissions subject to

appropriate regulatory measuresappropriate regulatory measures Monitoring and Surveillance of the markets.Monitoring and Surveillance of the markets. Conducts inspection of Exchanges and theirConducts inspection of Exchanges and their

MembersMembers


FMCFMC –– thethe IIIIndnd TierTier Appoints independent directors on the boardsAppoints independent directors on the boards

of exchangesof exchanges May suspend a Member of the Exchange.May suspend a Member of the Exchange. Informs and assists Police authorities inInforms and assists Police authorities in

investigation and prosecution for illegal /investigation and prosecution for illegal /irregular trading.irregular trading.


ExchangesExchanges –– thethe IIIIIIrdrd TierTier

Conduct trading on the basis ofConduct trading on the basis ofthe Articles, Bye Laws approvedthe Articles, Bye Laws approvedby the Commission.by the Commission.

May take action against anyMay take action against anyintermediary.intermediary.


Major Regulatory ToolsMajor Regulatory Tools

Limits on speculative open positionLimits on speculative open position Price limitsPrice limits MTM on t+1 basisMTM on t+1 basis Gross upfront marginingGross upfront margining Special marginsSpecial margins


ORGANISATION STRUCTURE OF FMCORGANISATION STRUCTURE OF FMC

COMMISSION

DIVISION – IDivision of Markets,

Trading and Development(Market Division)

DIVISION-IIMarket Intelligence,

Monitoring & Surveillance(M&S Division)

DIVISION-IIIResearch, Training and

Intermediary RegistrationAnd IT

( IR Division)

DIVISION-IVInvestigation, Vigilance

And Legal Affairs Division(Legal Affairs Division)

DIVISION-VCommission Secretariat

Including HR,Administration & Finance

Grievances(ADM Division)

4 Members, one ofwhom is Chairman

Each Division is supported by Deputy Directors, AssistantDirectors, Economic Officers and Junior Research Assistants.


5.5. AmendmentsAmendmentsproposed to the FC(R)proposed to the FC(R)

Act 1952Act 1952


Amendments proposedAmendments proposed Financial and Administrative autonomy for theFinancial and Administrative autonomy for the

Commission.Commission. Allowing options in goods.Allowing options in goods. Allowing other products like weather derivatives, freightAllowing other products like weather derivatives, freight

futures, index etc.futures, index etc. Provide forProvide for corporatisationcorporatisation and demutualization ofand demutualization of

commodity exchanges.commodity exchanges. Provision for imposition of penalties, fines.Provision for imposition of penalties, fines. Levying of fees.Levying of fees. Constitution of Forward Markets Appellate Tribunal.Constitution of Forward Markets Appellate Tribunal. Provision for grant by the Central Government.Provision for grant by the Central Government.


6.6. ImportantImportantDevelopmental/ RegulatoryDevelopmental/ Regulatory

Steps TakenSteps Taken


Developmental MeasuresDevelopmental Measures

Awareness Campaign among stakeholders.Awareness Campaign among stakeholders.

Capacity Building through Universities andCapacity Building through Universities andBusiness Schools.Business Schools.

Price dissemination among farmers throughPrice dissemination among farmers throughAPMCsAPMCs (spot market regulators)(spot market regulators)


Present Limitations of FMCPresent Limitations of FMC

OptionOption tradingstradings prohibited.prohibited. Functions as a Government department withFunctions as a Government department with

limited autonomy with respect to :limited autonomy with respect to : Recognition / deRecognition / de--recognition of Exchanges.recognition of Exchanges. Regulation of Intermediaries.Regulation of Intermediaries. Financial and Administrative Autonomy.Financial and Administrative Autonomy.

Market Expansion has put heavy pressure on theMarket Expansion has put heavy pressure on theFMCFMC’’s coping capacity.s coping capacity.


Regulatory Measures TakenRegulatory Measures Taken

Registration of brokers / intermediariesRegistration of brokers / intermediaries Audit of brokers / intermediaries.Audit of brokers / intermediaries. Heavy penalties for violation of limit onHeavy penalties for violation of limit on

open positionopen position Contract designs being made broadContract designs being made broad

basedbased –– UradUrad,, TurTur, Potato., Potato. Clubbing of Open Interest to preventClubbing of Open Interest to prevent

CartelizationCartelization


Regulatory Measures TakenRegulatory Measures Taken(Contd.)(Contd.)

Review of non operative / illiquid contract atReview of non operative / illiquid contract atthe Exchange.the Exchange.

Stringent Norms for client CodeStringent Norms for client CodeModificationsModifications

Permanent Account Number madePermanent Account Number mademandatorymandatory

Portfolio Management Scheme prohibitedPortfolio Management Scheme prohibited Uniformity in Transaction CostUniformity in Transaction Cost


Regulatory Measures TakenRegulatory Measures Taken((ContdContd))

Harmonization of Regulatory measuresHarmonization of Regulatory measuresacross exchanges.across exchanges.

Move towards Compulsory Delivery.Move towards Compulsory Delivery. Basis variety as per physical market realitiesBasis variety as per physical market realities ––

Potato, Cumin Seed.Potato, Cumin Seed. Restrictions on Pro account trading.Restrictions on Pro account trading. RationalisationRationalisation of daily price limits, especiallyof daily price limits, especially

in sensitive commodities.in sensitive commodities.


7. THE FUTURE7. THE FUTURE


Issues and ChallengesIssues and Challenges

Strengthening of and Autonomy for the Regulator.Strengthening of and Autonomy for the Regulator. Removal of restrictions on Options trading.Removal of restrictions on Options trading. Increasing the breadth and depth of the market:Increasing the breadth and depth of the market:

Participation of farmers / aggregators and other hedgers.Participation of farmers / aggregators and other hedgers. Participation of Banks / Mutual Funds.Participation of Banks / Mutual Funds.

Improving the Governance of Exchanges andImproving the Governance of Exchanges andIntermediaries.Intermediaries. Stricter enforcement of legal and regulatory provisions.Stricter enforcement of legal and regulatory provisions. Improvement in competencies and transparency.Improvement in competencies and transparency.


StandardisationStandardisation of contract designs and qualityof contract designs and qualityparameters across the market.parameters across the market.

Removal of interstate tariff and nonRemoval of interstate tariff and non--tarifftariffbarriersbarriers –– Market integration.Market integration.

Capacity Building : FMC, Exchanges,Capacity Building : FMC, Exchanges,Warehouses, Assayers.Warehouses, Assayers.

R and D in Commodity market governance andR and D in Commodity market governance andstructural issues.structural issues.

SensitisationSensitisation of policy makers / opinion makersof policy makers / opinion makerswith respect to the benefits of the commoditywith respect to the benefits of the commodityfutures market.futures market.


Way ForwardWay Forward

The following are under implementation or on the anvil:The following are under implementation or on the anvil: Amendment of Forward Contracts (Regulation) Act,Amendment of Forward Contracts (Regulation) Act,

19521952 A progressive FDI policy for the CommodityA progressive FDI policy for the Commodity

Exchanges.Exchanges. Greater and urgent action on governance issuesGreater and urgent action on governance issues

including storage, quality and delivery related issues.including storage, quality and delivery related issues. Dissemination of commodity prices (futures and spot)Dissemination of commodity prices (futures and spot)

through ticker boardsthrough ticker boards Provision of Rs.100million in 2007Provision of Rs.100million in 2007--08.08.


A massive awareness campaign among the stakeA massive awareness campaign among the stakeholders including farmers.holders including farmers.

Programs for capacity building across the valuePrograms for capacity building across the valuechain.chain. –– Rs.25Rs.25 mnmn budgetedbudgeted

Efforts are on to promote Aggregators for directEfforts are on to promote Aggregators for directparticipation of the farmers in the market.participation of the farmers in the market.

Hope to see a well regulated, strong, efficientHope to see a well regulated, strong, efficientand transparent commodity futures market inand transparent commodity futures market inIndia in 2 to 3 years time.India in 2 to 3 years time.

Forward Markets CommissionForward Markets Commission 48489/10/20079/10/2007

[email protected]@nic.in

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