Derivatives trading in commodity indices

Sebi has permitted commodity exchanges to offer derivatives trading in indices. Metals and energy bourse MCX and agri bourse NCDEX offer futures and options on single commodities and have created indices which will soon be available for trading. ET explains the basics:

1. What is an index futures contract?
A contract that facilitates the purchase or sale of an underlying index at a fixed price for delivery on a future date. In actuality, index derivatives contracts are cash settled in India.


2. What are the indices that the commodity exchanges have launched?
Of the two major commodity exchanges, MCX has launched seven indices under the MCX iCOMDEX family: one composite index, two sectoral indices and four single commodity indices. NCDEX has launched Nkrishi.

3. What is their benefit over trading single commodity futures or options ?
The risk of trading an index futures contract is relatively lesser than for trading a single commodity futures contract. Some might not have the specialisation or knowledge enough for trading a single commodity futures contract but rather have a broader view on a basket of commodities. In that respect trading an index is easier than a single commodity futures contract.

It’s similar when trading Nifty and a single stock futures. Broadly the riskreward might be more favourable on trading Nifty than the other. Also, influencing an index is more difficult than a single stock futures.

4. From where do the indices derive their value?
The indices derive their value from the prices of respective commodity futures contracts traded on exchanges scientifically weighted as per the published methodology.

5. When will they begin to be traded?
SEBI has permitted trading in composite and sectoral indices. The exchanges will launch them after getting approval from the regulator on contract specifications and other parameters.

6. Until they become tradeable, how can participants benefit from them?
The commodity indices indicate the general trend in commodity prices, and therefore reflect the fundamentals of the broader commodity economy or the commodity sector they represent. The indices can also be used for benchmarking, in order to gauge the performance of an investment portfolio consisting of the constituents.