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Electronic commodity trading has led to a big rise in volumes

Electronic commodity trading has led to a big rise in volumes

Electronic commodity trading has led to a big rise in volumes, and this is just the beginning.

People bet on all sorts of things, so why not rainfall? In a predominantly agrarian economy such as India's, it is possible that there could be many buyers for such futures contracts, and a farmer in a remote village could put even savvy investors to shame. That may be some years away, but the technology to trade has reached rural doorsteps. Several dozen commodities are already being traded on exchanges, and more will join the list soon.

The possibility that something like rainfall contracts could become a reality stems from the success of the MCX and NCDEX, electronic trading platforms for commodities launched eight years ago. Commodity futures trading volumes have grown at a compound annual rate of nearly 80 per cent from Rs 1.29 trillion (one trillion equals 100,000 crore) in 2003/04 to Rs 119 trillion in 2010/11. On March 15, 2011, the Multi Commodity Exchange, or MCX, recorded its highest daily turnover - Rs 71,800 crore - since trading began.

Of the 113 commodities traded on the exchanges, potato is perhaps the easiest for investors to relate to, and a good example of how accessible commodity futures are. The smallest contract for the tuber is 15 tonnes. At the price of Rs 12 a kilo, the value of a potato futures contract is Rs 1.8 lakh. By paying a five per cent margin - Rs 9,000 in this example - one can take a bet on the direction of potato prices. "There is a gradual shift of investment in favour of commodities as an alternative investment class," says Pritam Kumar Patnaik, Vice President, Kotak Commodity Services.

Agricultural commodity trade is dominated by turmeric, jeera, mustard, guar and soya bean seeds. Among non-agricultural commodities, gold, crude oil, silver and copper mirror global trends.

MCX, along with half a dozen other commodities exchanges, dominates the total turnover of some two dozen exchanges in India. MCX alone accounts for 80 per cent of the trading. India is no newcomer to commodity futures. The history of this market goes back to 1875, when cotton contracts began to be traded through the Bombay Cotton Trade Association. It is not surprising that Indian investors have taken readily to the electronic version. Commodity trading could overshadow equity markets in the next decade.

At present, equity futures trading is two to three times bigger than commodity futures. Globally, the situation is the opposite. In 2010/11, Indian commodity futures trade volumes narrowed the gap, growing almost 50 per cent and closing the year with a turnover of Rs 119 trillion, while equity futures recorded Rs 292 trillion. Many experts say agricultural commodities will play a bigger role, as India is a world leader in several of them.

Lamon Rutten, Managing Director and CEO, MCX, told Business Today earlier this year that the explosive growth in commodities trading was due to the availability of an efficient trading platform. Rutten says the corporate sector contributes significantly by hedging risk through commodities contracts. "Imagine what would happen to commodity volumes if banks, mutual funds, insurance and foreign investors were not allowed to trade," he says. "Ten years ago, the glass was empty. Today, it is half full."

Some experts say the journey has just begun, and that overall economic growth of seven per cent in the next decade will drive growth in commodities trading. Many commodity classes, such as rainfall indices and onions, are yet to go on the list. Trading in commodity options - another asset class - will also become a reality soon. Commodity options constitute almost 50 per cent of the turnover of global commodities markets. With food inflation, concerns about food security and the global race for mines, interest in commodity trading will only rise.

Farmers benefit indirectly from futures trading, as price discovery through NCDEX or MCX helps them get a better price for their produce.