The recommendation of the advisory committee of the Securities and Exchange Board of India (Sebi) to allow options trading in select commodities and open up futures market to banks, mutual funds and international hedgers has implications that need to be weighed carefully before taking a final call. The committee also wants Sebi to expand the list of goods traded in the futures market to include commodities like tea, coffee, milk products and eggs. Many of these suggestions are not entirely new. The Forward Markets Commission (FMC), which used to regulate the commodities sector earlier, had talked about them for years. The Bill to amend the Forward Contracts (Regulation) Act, 1952, which became irrelevant after the merger of the FMC's functions with Sebi, had also sought to empower the regulator to launch options trading. The intention was to help farmers hedge their risks by giving them the right, but without the obligation, to honour the commitment if it does not suit them at the time of maturity. Roping in financial institutions was aimed to bring in additional liquidity and depth in the commodity derivatives market to counterbalance the influence of speculators. Finance Minister Arun Jaitley had indicated the launch of new products in commodity derivatives in his 2016-17 Budget speech.
However, under Indian conditions, where volumes of many goods traded on futures platforms are thin, infusion of more liquidity can be risky. The biggest danger is that players with deep pockets can manoeuvre the market. Even the Kabra Committee's report, which formed the basis for the reintroduction of futures trading in 2002 after a nearly 40-year hiatus, had cautioned against such an eventuality. It had pointed out that unless the futures market regulator was adequately empowered and its infrastructure suitably strengthened, futures trading would run the risk of turning into a rich man's casino. Rigging of the market by players with surplus funds was evident in the past when prices of minor goods like guar and zeera (cumin seed) had spurted purely because of speculation. Though Sebi is a far more autonomous and powerful body than the toothless FMC and has proved its credentials as financial markets watchdog, it is still new to the commodities sector. It needs to build specialised handling skills and expertise for every commodity as the fundamentals that determine price movements are different for each.
The fact is that trading in futures is essentially an instrument of a totally free market economy, which is not yet exactly the case in India. The government's interventions like fixing minimum support prices and placing controls on stockholding and movement of goods are inimical to its smooth operation. They prevent it from serving its stated objective of price discovery. Even instruments like options trading can serve little purpose under such circumstances. In most other countries, where trading in options has facilitated risk management, the transactions are mostly cash-settled. In India, where delivery is also an available alternative, the hedging functions of the options trading tend to be hampered. Considering these and other hazards such trading practices can pose for want of effective regulation, it would be better to remain cautious while considering the Sebi advisory committee's counsel on options trading.
