Among the investment avenues, commodity futures trading is a fast growing sector with huge untapped potential, along with the financial markets.
The major difference between commodity and financial markets is that, in commodities futures physical delivery takes place where as in the capital market it does not.
In the Indian context, warehouses are necessary for the commodity sector and commodity future trading especially for farmers because agricultural commodities constitute a major segment of the Indian economy.
Commodities form almost 58 percent of India's Gross Domestic Product out of which 22 percent is agriculture, and two third of the population depend up on agriculture for livelihood.
Warehousing forms the basic platform of delivery based trading in commodity futures. Warehouses play an important role in commodities futures, as most of trades are settled with delivery. That is, if the seller chooses to handover the commodity instead of the difference in cash, the buyer must take physical delivery of the underlying asset.
Hence, warehouses play a significant and decisive role in the proper and efficient functioning of commodity futures trading. Warehousing system and warehouse receipts act as the chain, connecting farmers with the future market and credit financing. Using this facility, the farmer can hold the commodity to future profit and can make money for giving the inputs and day-to-day expenditure.
Buyers and sellers have different roles in a transaction. So an impartial collateral manager is essential to act as an interface between buyers and sellers. Warehouse assayer acts as collateral manager who is neutral, reliable and creditworthy to both parties. He supervises all aspects of the underlying assets and sanctions the warehouse receipt, which can be used as collateral security.
Warehouse receipt helps to avail credit financing. Many banks are providing loan facility against warehouse receipts, which is very helpful for farmers and traders, who can use that money for giving inputs for the crop and for sowing. Traders and processors can use that amount in to the business.
A trader who does not own storage place can utilize the warehouse having enough space and facilities. In some of the cases especially in cardamom, a specified storage facility is necessary.
Warehouses in commodity futures work as:
In India, two government-controlled warehouses the central and state warehouses -- provide agri-produce storage facility across the country. They provide a good networking across India, because the people can take delivery at the convenience of their nearest warehouse. The warehousing system also helps in the better integration of ready market for commodities across time and places, thereby facilitating better integration of spot and futures markets. This in turn improves efficiency of futures market in price discovery and price risk management functions.
But compared with the growth of futures trading in India, there are not sufficient numbers of warehouses. Starting of new warehouses would be very useful for the further development and increasing participation of all kind of players in the commodity futures market.
Allowing private warehouses with strict regulatory norms would also be a positive step in this direction.
Biju Thomas is Head, Commodity Online Research. He can be contacted at research@commodityonline.com