How commodity bourses can survive

The larger objective should be to strengthen price discovery mechanism and risk management in the economy.

In commodity, like any other trading one does not mind paying a transaction fee as long as profits are made. However, once an entity starts making losses, the concern on the high transaction fee becomes multi-fold. On the other hand, when commodity exchanges start making losses, they may be forced to increase transaction fee camouflaged under some other name to boost the revenue. This often causes narrowing of participation and alienation of new participation on the exchange platform.

Comexes, which till a few years ago were embarking on global ambitions, are now struggling for survival. Of the first three national exchanges that were granted license, one continues to make profit due to low cost of operation, the other is showing signs of operating losses while the third continues to struggle.

Of the three new exchanges that were granted licences, two have already closed down. The other is on the verge of closure unless it is merged with the most profitable exchange in future, considering that a common group of shareholder have significant minority stake in both. Since its inception, Indian commodity futures market had pursued a cash-carry arbitrage model for agricultural commodities and momentum trading for the globally-linked commodities. With markets maturing, the cash-carry arbitrage has shrunk for agricultural commodities and with global commodity market entering a bearish phase, participation has become a casualty on exchange that has global commodity linkage.

The exchange which has kept costs under control still has a fair chance of survival, whereas the other with high manpower and outsourced technology cost is limping for operating profit. These developments throw a very important question - what happens to shareholders’ value in these “financial infrastructures” of the country. Doesn’t it mean that erosion of the value of exchanges is causing an erosion of shareholders’ value? Is it not a provocation enough for those governing exchanges to do a deeper soul searching for the revival? While some PE investors as shareholders of exchanges maybe demanding active performance improvement from the management, they are often short of foresight, vision and definitive roadmap to revive the exchange as governors.

In such situations, it is important that the corporate and shareholder governors of the exchanges are actively engaged by the regulators and the Ministry for its survival plans. However, the buck should not stop with mere profitability plans for commodity exchange’s survival. The larger objective of the commodity exchanges are to strengthen the price discovery mechanism and risk management for commodities in the economy for which the futures trading were allowed in the middle of last decade. If the exchanges are to be taken more seriously by the policymakers, over the next few years those governing the exchanges have to be more contributory to the broader economic objective, similar to what Leo Melamed had done to CME in the seventies.

Published in The Business Line on 24 October, 2014

Raids on hoarders need to be carried out with diligence

Agencies involved in commodities should use more analytics and information for better results.

It is would be interesting to note that ahead of Diwali, food safety officials and civil supplies department suddenly become active to ensure that laws are abided in the commodities sector. What is more surprising is not the way these raids are conducted but their timing. The activism of the law enforcers before Diwali in the North and Onam, Ugadi and Pongal in the South has been consistent over the years.

Undoubtedly, law enforcement raids are most effective when they involve good intelligence and planning. On the other hand, most raids are blind and executed without adequate information.

Obviously, the raids-to-prosecution ratio is pathetic as raids are conducted without proper analysis of market information. Both Union and State Governments often promise a crackdown on hoarders and black marketers to curb artificial price rise. However, most often the theatrical raids are conducted to cover institutional impotence and incompetence in the middle of the trouble (scarcity & seasonal price rise).

Sometimes, raids by the government machinery are also done to settle personal scores. For example, in 1995 a State Civil Supplies Minister in Gujarat backed by the oil traders lobby had ordered raids on the edible oil tanks of the National Dairy Development Board (NDDB) charging them with hoarding. The fact was the Minster was enraged by the fact that he was advised to check with the Union Ministry when he sought details of stocks from the prestigious institution.

In recent times sugar, pulses and onions have become the commodities of choice for the raids. Commodities whose prices are on rise and the supplies of which are getting scarce become the targets of the raids. The agencies that suspect hoarding should monitor stock movements, trade flows and the historical consumption patterns with appropriate intelligence and market information so that the impact of the raids do not create panic in the market.

Currently, the effectiveness of income tax raids are more profound in the economy due to analytics and software support that has been put in place over the last few years.

It is time that State agencies involved in commodities should use more analytics and information for better effectiveness of the raids.

In a market economy there cannot be any bigger disaster than vanishing stocks from the shelves due to fear. Intelligent raids should be the last resort to bring semblance of logic rather than creation of fear psychosis in the commodity market.

Published in The Business Line on 9 October, 2014