The Hindu Business Line : ‘Criticism against rubber futures not out of ignorance’

Kottayam, Sept. 20 The criticisms levelled against the futures trading in natural rubber by different stake holders in the industry cannot be discounted as ignorance on the theoretical virtues of commodity futures, Mr Sajen Peter, Chairman of Rubber Board, told Business Line, in reply to a question that the futures trading in natural rubber has become a contentious issue nowadays.

There are also arguments for and against futures trading. The Chairman said the criticisms were based on the experience of the working of the futures trading in the country since 2003.

The advantages of futures trading over conventional trading are competitive price discovery, risk covering and price stabilisation. The potential benefits can be realised only if it functions efficiently under stringent regulations to protect the genuine interests of different stake holders.

‘Competitive tool’

There were arguments against introducing futures trading in natural rubber because of certain peculiar characteristics in the sector, such as a market structure, low average size of holding at 0.5 ha, narrow natural rubber demand supply balance, marginal foreign trade component in total production\consumption, a well-organised marketing system with around 10,000 private dealers, and a network of cooperative societies and rubber producers societies, an efficient system for dissemination of market intelligence on domestic and international natural rubber markets, a relatively defined seasonal pattern in the production as compared to South-East Asia with minimum uncertainties etc.

Yet futures trading was supported as it was perceived as a competitive tool to supplement and support physical trading in the context of globalisation. In order to make the futures markets liquid, presence of speculators is essential and hence speculative market operations cannot be ruled out.

Speculators dominate

But it is also essential that no one category (speculators or hedgers) or a firm or a group of firms is dominant in the futures market. It was reported that speculators dominate the rubber futures trading in India and the real stake holders in the industry are not interested.

Speculation involves trading based on anticipated price movements, which are brought about by market fundamentals. In an efficiently functioning market, the moments in futures prices reflect the anticipated developments in the physical market.

It is accepted that there can be moderate reverse impact on spot prices by futures prices due to currency and other factors. But what has been observed is that the natural rubber’s futures prices have been unduly manipulated leading to artificial bullish-bearish trends, which in turn are often transmitted in to the spot rubber prices.

This has often lead to unwarranted volatility in the prices bringing serious hardships to all stake holders in the rubber industry viz., growers, processors, dealers and manufactures. The sharp increase in domestic natural rubber price since October 2006 had not reflected the real sentiments in the market.

Manipulation

On the other hand, it was artificially crafted by manipulating the natural rubber futures. October to January is the season of peak production in the country, given the excess production during the season, there was no reason for the domestic price to rule above the international price.

But contrary to the market fundamentals, the domestic price surged disproportionately to the trends in the international market. As a result, the price gap between the domestic and international markets widened in December 2006.

The artificially-created price bubble in the domestic market from October to December prompted the tyre manufacturing industry to expect a still higher price from February onwards during the lean season. Therefore, the tyre industry entered into large scale natural rubber import contracts.

As a result, imports surged from January onwards in spite of the comfortable situation within the country. Import of natural rubber during 2006-07 was 89,699 tonnes as against 45,285 tonnes during 2005-06.

Adverse effect

Meanwhile, the higher domestic price adversely-affected natural rubber exports. Its export during 2006-07 was 56,545 tonnes against 73,830 tonnes during 2005-06. The steep increase in the import coupled with the decrease in export resulted in stock piling.

The closing stock of natural rubber as at the end of March 2007 was 1,63,530 tonnes as against 93,020 at the end of March 2006. Summing up, Mr Peter said the futures trading in natural rubber in India has failed to accomplish the benefits of price discovery and price stabilisation. In turn, it has often given wrong price signals to the market and fuelled volatility.

This will have serious implications on the natural rubber production, processing, marketing and end-use sectors. As futures trading is only marginally used for hedging purposes, the tenet of risk covering is also not served.

Suggesting various corrective measures, Mr Peter said the Forward Markets Commission has reduced the daily price fluctuation (daily cap) in respect of all rubber futures contracts from 3 per cent to 2 per cent with effect from July 2.

Transparency needed

The current arrangement also allows daily price fluctuation up to a maximum of 4 per cent, after a 15-minute cooling time as the price currently hovers around Rs 85 per kg, a variation of 4 per cent in a day is considerably high.

The maximum possible intra-day variation needs to be plugged at 2 per cent under any circumstances. The deals in trading floor shall be made fully transparent so as to instil confidence among different stake holders in the industry.

Measures have to be devised to limit speculative position in the natural rubber futures market. It is also important to ensure that the regulations on the futures trading do not violate the provisions under rubber act regarding trading in natural rubber.

The board is of the view that natural rubber futures trading in its current form is not conducive to the interests of the stake holders. In this context it is imminent to initiate a holistic review of the functioning of the futures trading to identify the weaknesses and rectify them. In the absence of such a review and immediate corrective steps, the logical basis of the existence of futures trading in natural rubber is to say the least questionable, said Mr Peter.

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