Effectiveness of Ahmedabad Castor futures exchange

Abstract

Export market of castor oil is highly price competitive. Indian exporters though commanding a almost monopoly status can not control prices because of substitutability of castor oil. In such a case exporters need a effective price and quantity locking mechanism so that they can reduce their margins and be more price competitive. Ahmedabad castor futures exchange is the largest and most important castor exchange in India. Its share in total transaction in India has increased from 52 % in 1990-91 to 68 % in 1995-96. Moreover Gujarat being the largest producer of castor seed in India makes Ahmedabad Castor Exchange even more important. In this report we have examined the effectiveness of Ahmedabad Castor Exchange on following aspects 1. Liquidity : In exchange liquidity has improved considerably during 1996-97 with volume of transaction as times of production increased to 4.6 from 2.6 from 1995-96. Exchange has also improved its share in all India castor futures trade from 61 % in 1994-95 to 68 % in 1995-96. 2. Basis : For all the contracts basis was almost zero at maturity. There was a lot of fluctuation in basis of December and march contracts. Basis of September contracts followed expected and ideal pattern. For some contracts basis exhibited some cyclical trend during trading period indicating ineffectiveness or dominance of some traders in the market. Year 1996-97 exhibited the best performance in terms of basis across the contracts. This may be because of increase in liquidity in the market. 3. Arbitrage opportunity : Arbitrage opportunity existed for a long time during trading of a contract. This indicates that traders are not working on sound business principles and profit making is the main motive driving the prices. Most of the arbitrage opportunity emerged during middle of trading period. For most of the contracts, mechanism of arbitrage was- sell in the ready market, earn interest on money realized and go short in futures market. One of the reasons for long existence of arbitrage opportunity is that most of the transaction is between speculators/ brokers, who are in majority in number on exchange, for whom profit making is the only objective. 4. Organisational effectiveness : The organisational structure accommodates interest of all the participants- exporters, ready traders, crushers and brokers- through proportionate participation of each of them in BoD. There are 181 members of the exchange, brokers being largest (121) in number. Of 181 members only 41 of them are active and most of them are brokers. Thus active participation of exporters and crushers is not coming through. The system of biweekly settlement has brought steadiness in trade. 5. Price discovery and hedging. The main objective of futures trade i.e., price discovery and hedging is not met effectively. Maximum amount of transaction take place among brokers ( speculators ) of which 95 % are settled financially. Thus price movements are driven more by profit motives and less by demand-supply equation, thereby distorting the objective of price discovery. Since exporters & crushers prefer physical settlement over finical settlement, therefore they are not keen on participating in trading. To improve the effectiveness of exchange we recommend the following 1. Specify the mode of final settlement of contract before its commencement, i.e. it should be made clear whether mode of settlement will be financial or physical. This will encourage exporters to participate in trading and also price movement will be more rational. 2. Rationalise the membership fee structure. Reduce membership fees for small broker an crusher through direct subsidy, reduction in fees or allowing patronage/ guarantee by big broker and crushers. 3. Limit the arbitrage opportunities. Exchange authorities should keep track of future prices and spot prices and use their regulatory powers to limit the arbitrage opportunity or any unusual price movements 4. Disseminate information about estimates of crop production, domestic demand, international prices demand. This will reduce fluctuation in prices and price movement as more information can be incorporated in future prices and price movements will be more rational