The Hindu Business Line : Cotton

Even as the whole world seems to be glued to commodity futures trading — either for hedging or for investment purpose — cotton sector players in India seem to be losing out.

COTTON HAS the potential to be the star performer among various agro-commodities. — P. V. Sivakumar

Commodities have become fashionable again as economic interest in the manufacturing sector and agriculture sector is surging. Commodities are integral to global economic growth. Globally, there is interest not only from hedgers, but also from funds. Close to $100 billion is invested in commodity derivatives.

Indeed, markets — equity, forex, bond, etc., — are integrating. Funds seem to seamlessly flow from one market to the other. With commodities often outperforming other assets, they have emerged as a new asset class. Whether energy, base and precious metals or agricultural products, the last three years have witnessed phenomenal price spurts and premiums Savvy traders capable of reading market signals have reaped huge profits in commodity market. So much so that commodities such as gold and crude have outperformed other assets such as equity, forex, bond and real-estate. Today, the commodity futures market is perceived not only as a tool for price discovery and price risk management but also as an avenue for investment and profits.

The Risks

While the whole world seems to be glued to commodity futures trading — either for hedging or for investment purpose — cotton sector players in India seem to be losing out. Stakeholders in the Indian cotton sector — mainly traders, processors and mills — do take enormous risks every season because of their exposure to the physical market, with which several risks are associated. To name a few: Production, quality and payment risks. All these risks eventually translate to price risk.

In the last say 10 years, there have been wide fluctuations in cotton production, quality and prices. As the domestic market integrates with the global market, the risk perception gets heightened. Today, to take an informed decision, the cotton trade has to not only look at the domestic market conditions, but also seek to know what is happening in the world market — say, production and export surplus in the US, import demand in China and so on. Developments in other parts of the world impact the domestic market. Unpredictable inflow and outflow of funds in any commodity creates price volatility. Small players often find themselves unable to cope with rapid price changes in the market.

It is therefore important to manage one's price risks well. Those averse to risks have to adopt risk mitigation plans. As part of the economic liberalisation process, the Government has opened up the commodities sector. Internal and external trade restrictions have been dismantled. Though young, national level futures exchanges with online trading are performing commendably in several commodities.

Supportive FMC

The East India Cotton Association (EICA) has a long tradition of conducting cotton futures trading. Its members have hands-on experience in cotton trading. The Association has the domain knowledge. Yet, the performance of cotton derivatives trade has left much to be desired. What EICA needs is the `will' to make things happen. Serious stakeholder consultation and willingness to act on sound advice are necessary. Fortunately, the Forward Markets Commission (FMC), the commodity futures market regulator, is supportive. FMC wants commodity-specific exchanges to continue to perform, prosper and promote the derivatives trade.

Even while examining contract design and addressing concerns of stakeholders, the EICA can provide a platform to cotton market participants to commence delivery-based forward trading. In time, delivery-based forward trading will create conditions for successful futures trading. In terms of production, consumption and exports, Indian cotton never had it so good as in the last two years. With output of about 260-270 lakh bales, consumption of over 200 lakh bales and exports of over 40 lakh bales, India is making its mark in the global cotton market. From being a major importer, India is now a major exporter of cotton. Farmers, ginners, mills and traders all have benefited. Prospects for the next four-five years appear bright. India will be a mover and shaker of the global cotton market, and the world will keenly watch developments here.

It is the most appropriate time to adopt sound risk management policies, especially for corporates with exposure to cotton. In their own self-interest, textile mills have a role to play in promoting cotton derivatives, similar to the role they have in promoting contract farming.

It is certainly boom time for commodities and boom conditions are likely to continue into the foreseeable future. India's economic growth will readily translate into more demand for, and more consumption of, a whole range of commodities including, of course, cotton.

Cotton surely has the potential to be the star performer among various agro-commodities. For EICA, the current market conditions provide an ideal context to aggressively move forward in cotton futures trading.

(Excerpts of speech delivered by the author, an Associate Editor of The Hindu Business Line, at the International Cotton Conference held in Mumbai on March 15-16.)

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