Types of Commodity Trading in Derivative Markets

The term "commodity" refers to a basic good used in commerce that can be readily bought or sold. Commodities are generally interchangeable with other commodities of the same type. Examples of commodities include agricultural products like wheat, rice, cotton, and sugar, as well as metals like gold, silver, and copper, and energy products like crude oil and natural gas.

In India, there are three main commodity exchanges:

1. Multi Commodity Exchange of India Limited (MCX): This is the largest commodity exchange in India. It offers trading in a variety of commodities, including bullion (gold and silver), base metals (copper, lead, zinc, etc.), energy (crude oil, natural gas), and agricultural products (pulses, spices, etc.).
    
2. National Commodity & Derivatives Exchange Limited (NCDEX): This exchange focuses primarily on agricultural commodities. It offers trading in a variety of agricultural products, including cereals (paddy, wheat, maize), pulses (tur, urad, moong), oilseeds (mustard seeds, castor seeds, groundnut), and fibers (cotton).
    
3. National Stock Exchange (NSE): The NSE also offers a derivative segment where investors can trade in commodity futures contracts. The NSE primarily focuses on bullion and metals.

Types of Commodity Trading in Derivative Markets

Commodity derivatives are contracts derived from underlying physical commodities. They allow investors to speculate on or hedge against future price movements of commodities. There are two main types of commodity derivatives contracts: futures contracts and options contracts.

Futures Contracts

A futures contract is a legally binding agreement to buy or sell a specific quantity of a commodity at a predetermined price on a specific future date. For example, an investor may enter into a futures contract to buy 100 tons of gold at a price of Rs. 50,000 per 10 grams three months from now. The investor is obligated to buy the gold at the agreed-upon price on the maturity date, regardless of the prevailing market price at that time.
 

Options Contracts

An options contract gives the buyer the right, but not the obligation, to buy or sell a specific quantity of a commodity at a predetermined price on or before a specific future date. The buyer of an option contract pays a premium to the seller for this right. There are two types of options contracts: call options and put options.

• Call Option: A call option gives the buyer the right to buy a commodity at a predetermined price on or before a specific future date. The buyer of a call option is hoping that the price of the commodity will rise above the strike price (predetermined price) by the expiry date.
• Put Option: A put option gives the buyer the right to sell a commodity at a predetermined price on or before a specific future date. The buyer of a put option is hoping that the price of the commodity will fall below the strike price by the expiry date.

Participants in the Commodity Derivatives Market

There are two main types of participants in the commodity derivatives market: hedgers and speculators.

Hedgers

Hedgers are typically producers or consumers of commodities who use derivatives contracts to manage their exposure to price fluctuations. For example, a farmer may enter into a futures contract to sell his upcoming harvest at a predetermined price. This protects the farmer from a potential fall in commodity prices between now and the harvest.

Speculators

Speculators are investors who take calculated risks in the hope of profiting from price movements in the commodity market. Speculators may buy or sell futures or options contracts based on their expectations of future price movements.

Commodities Traded on MCX, NCDEX, and NSE

The following tables provide a list of some of the major commodities traded on the MCX, NCDEX, and NSE exchanges in India:

MCX (Multi Commodity Exchange)

MCX primarily focuses on bullion, base metals, and energy commodities.

NCDEX (National Commodity and Derivatives Exchange)

NCDEX specializes in agricultural commodities.

NSE (National Stock Exchange)

NSE offers a smaller selection of commodities compared to MCX and NCDEX.

Conclusion

The world of commodity derivatives offers a variety of instruments for both risk management (hedging) and potential profit-seeking (speculation). By familiarizing yourself with the different contract types (futures & options), exchange options (MCX, NCDEX, NSE), and traded commodities, you can make informed decisions about participating in this dynamic market. Remember, commodity trading involves inherent risks, so thorough research and a well-defined strategy are crucial.