Indian comexes rank among the top commodity exchanges in the world. According to FIA Annual Volume Survey March 2013, for the calendar year 2012, in many global commodities, namely gold, silver, copper, etc, Indian exchange ranked among the top exchanges in the world, in terms of the number of contracts traded. Despite that, in none of the Indian exchange features as a global benchmark for price-setting in any of the commodity.

Where are we lacking? Hence, the question arises: why are Indian exchanges not price makers despite being globally top-ranked in commodity derivatives trading? The first thing that one needs to understand is that there is an interesting innovation that Indian exchanges have brought about, and that is with the small lot size of the contracts, to enable smaller players’ participation in the commexes’ platform.

While this is indeed a major step towards market inclusion, the small lot sizes of the contracts often result in a large number of contracts being traded, though they might not be as high in value terms as compared to global benchmark exchanges. The futures market to physical market multiplier (i.e., number of times the futures market is to the spot market) in India is way below the ones in the US and UK.

So, what is it that international exchanges have, that Indian exchanges don’t? Let us illustrate the reasons one by one.

First, Indian exchanges have a very limited product basket to offer: only plain vanilla futures are allowed for trading under the existing statutes of the Forward Contracts Regulation Act, 1952. On the other hand, in the US and UK, options, indices, swaps, swaptions, and other sophisticated products are being traded on the exchanges. Deeper risk management instruments such as options and indices enhance the effectiveness of hedging.

Second, one needs to look at the contract denominations. In the Indian exchanges, only rupee-denominated contracts are available, while in the US and European exchanges, one finds the prevalence of global currency ($ and €)-denominated contracts, which enables global players to participate.

Third, forget foreign institutions, even domestic institutions such as banks and mutual funds are not allowed to participate in commodity exchanges.

In international exchanges, there is no such restriction on institutional participation.

It must be noted that institutions are plush with funds, and can offer the long-term liquidity to derivatives markets. This enhances the long-term hedging efficiency, and reduces the short-term impact cost due to higher liquidity

Corporate hedgers in India often complain about lack of long-term traction in the commodity markets, which often affects their hedging positions.

Trading hours On the other hand, institutional participation in other international exchanges brings about greater heterogeneity in participation, thereby helping in better price making process.

Fourth, the Indian exchanges operate for less than 14 hours a day, while the comexes of US and EU are operating for over 22 hours. This creates opportunity for partakers across time-zones to participate in the international exchange platform, or take their prices as references.

Fifth, while cross-trading and cross-margining across exchanges are allowed in the exchanges in US and EU, these are not allowed in the Indian commexes.

Hence, reasons are galore on why Indian exchanges are not the price-makers, while international exchanges are! One may not rule out the impacts of Commodity Transaction Tax in India that prevails for all the non-agricultural commodities (mostly global ones). These taxes do not exist in any of the nations with exchanges creating reference prices. It is worth noting that hedging efficiency of Indian commex in gold, copper, and crude palm oil, as estimated between June 2009 and April 2012, was comparable to the global benchmark exchanges. CTT, imposed in July 2013, by now, has changed the equation. For bringing in more efficiency and India to emerge as a price-maker, all these factors need to be worked upon.

( The writer is Chief Economist at Multi Commodity Exchange of India Limited. Views are personal.)

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