Why is hedging critical for corporate India in its journey to a $5 trillion Economy?

The primary objectives of any futures exchange are authentic price discovery and efficient price risk management.

Price Risk Management: Hedging is the most common method of price risk management. It is the strategy of offering price risk that is inherent in the spot market by taking an equal but opposite position in the futures market. Futures markets are used as a mode by hedgers to protect their business from adverse price changes. This could dent the profitability of their business. Hedging benefits who are involved in the trading of commodities like farmers, processors, merchandisers, manufacturers, exporters, importers, etc.

Hedging, by strict definition, is the act of taking opposite positions in the cash and futures markets. To understand what a hedge is, first recognize that there are two markets:

• the cash market is the physical market where farm production is actually bought and sold

• the commodity futures market is the market where futures contracts are bought and sold

The role of commodities derivatives markets

Commodities derivatives markets can play an important role in the development and growth of India’s economy, particularly as the country works towards achieving a $5 trillion economy.

These markets allow producers and consumers of commodities to manage their price risk, which in turn can reduce price volatility and increase market efficiency. This can lead to improved liquidity and price discovery, which are important for the development of a well-functioning market.

In particular, the commodities derivatives markets can be beneficial for India’s agriculture sector, which is a major contributor to the country’s economy. By providing a mechanism for hedging against price fluctuations, farmers and other participants in the agriculture sector can better manage their risks and improve their financial stability. This can in turn encourage investment in the sector and contribute to its overall growth.

Understanding risk management

Option is the safest tool for hedging and amplifying profits if used with proper risk management

We have lot of volatility in the various commodities and currencies in the last 2-3 years assuring covid and after that due to supply-side constraints, Ukraine - Russia, Israeli - Hamas war, and after the effects of the printing of currency by central banks world over to boost demand.

Due to volatility in input material or final output many big and small companies have incurred losses. Bigger companies understand the importance of hedging and their price risk management through commodities derivatives markets. Whereas we have observed that small and medium enterprises shy away from it or ignore this tool available to them.

Gold import from Gift City

India is the second largest consumer of gold, annually we consume 800-900 tonnes of gold. But so far, “We have not been able to leverage our buying power in the world market,” still the price takers, We have suggested as CPAI that we have set up IIBX in gift city if we channelise all or part of our imports of gold from gift city we will have much more controls and we will be marching towards price setting destination.

The author is National President, Commodities Participants Association of India

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