Indira Gandhi National Open University (IGNOU) Interrelation of Futures and Spot Market: A Study of Wheat and Urd Market P.K. Jain and B.S. Hansra School of Agriculture Indira Gandhi National Open University (IGNOU) New Delhi-110 068

Agricultural Economy The agricultural sector dominant in terms of providing livelihood security to majority of people in the country. Prices of agricultural commodities affects the agricultural production. Stable and assured prices have a positive impact on production. Agricultural prices have always been major concern of the producer-farmers as well as the consumers. Agricultural prices should be remunerative to agriculturists yet non-inflationary for the other sectors Agricultural production unlike others have an added risk.

Concerns Seasonality in production; Year round consumption Fragmented rural markets, Large number of middlemen Instability and volatility of commodity prices-producers, consumers Distress sale - Reducing potential gains To cope up with this problem- measures initiated Cooperative marketing societies Minimum support / procurement prices, Crop insurance Futures trading - Risk shifting Function (Lock-in-prices)

Role of Futures and forward market Insulate buyers and sellers from unexpected change in future price Lock in the prices of the products well in advance Indication to the producers and consumers about likely future ready price and demand and supply conditions - Price Discovery Continuous process of arriving at a price figure at which a person buys and another sells a futures contract for a specific expiry date

Commodity Transactions Cash/Spot Contract Agreement for ready transaction of an asset through private negotiation Spot physical delivery and cash settlement (Within 11 days) Demand-Supply imbalance Forward Contract OTC agreement for transaction of specific asset for future date at pre-determined price (Physical delivery essential ) Risk mitigation tool for future demand Holders face spot price risk May expose to ‘default risk’ or ‘counter-party risk’ Futures Contract Redefined version of forward- traded on the platform - organized exchanges Tool for protecting against risk of price fluctuations in ready market Physical delivery and/or cash settlement Prices are freely and competitively derived

Role of commodity exchanges Providing platform for trade Efficient price discovery Development of contract specifications Fixation of quality specification of commodities Price dissemination to ensure that farmers can view them Provision of delivery platform Warehousing logistics Quality assurance Insure fare trading through rules and regulation of exchange

Commodity Futures in India Bombay Cotton Trade Association Ltd- 1875 (Cotton) Gujajrati Vyapari Mandali -1900 (Oilseeds) Calcutta Hessian Exchange Ltd -1919 (Raw jute) East India Jute Association Ltd -1927 (Raw jute) East India Cotton Association, Mumbai -1921(Cotton) Hapur, Muzaffarnagar, Bhatinda Exchanges– Before 1942 (Wheat) IPSTA in Cochin-1957 (Spices) Mumbai Bullion Association- Till mid 50s (Gold & Silver) However, the government withdrew the ban on futures with passage of Forward Contract (Regulation) Act in 1952. Futures trade was altogether banned by the government in 1966 Khusro Committee (1980) recommended reintroduction of futures in cotton, jute, potatoes, etc. Kabra Committee (1994) recommended reintroduction of futures in many more commodities including silver. National Agricultural Policy(2000) proposed to enlarge the coverage of futures markets Establishment of multi commodity exchanges and start of online futures trading (2003)

Issues emerges functioning of futures market, role and impact of futures market on general economy. Some opine that futures trading are responsible for inflationary trend in prices. Others section arguing that futures market is efficiently discovering right market prices. Other opines that it is good provided the farmers should be benefited. Some are ready to accept the futures trading provided only genuine users of commodity participated and the speculator should be given out. With this divided opinion govt banned the futures trading in two pulses, and cereals in January and February, 2007.

Issues to be addressed… Is futures trading facilitate hedging against price risk? Are futures markets guided by ready market or vice versa? Are these markets efficient enough to stabilize spot price? How much efficient is the price discovery mechanism? Role of futures trading in price rising Impact of futures trading on farmers economy Reasons of less farmers participation of in futures trading Consumers and futures trading Futures trading as balancing bridge between producer and consumer Is future trading plays its positive role in a situation of short supply (mis-match in demand and supply)

Objectives of the study Keeping above issues, the proposed research papers aims to cover mainly two areas: Variability and integration of futures and spot market and Movement in prices of agricultural commodities in the market during and after banning of futures trading.

Methodology Crops Market Data One cereal crop- Wheat One pulse crop- Urd Market Cash markets One major market for wheat One major market for Urd Futures market- NCDEX Data Time series data on daily prices, arrivals and trading volume in futures and spot market.

Analytical framework Times series analysis Stationarity (Mean, variance and auto-covariance remain same) Spurious and nonsense regression Stationarity test- Augmented Dickey Fuller unit root test Where is a vector to be tested for co-integration t is time or trend variable The null hypothesis that =0; that is, there is unit root – the time series is non-stationary. The alternative hypothesis is that is less than zero; that is the time series is stationary. If null hypothesis is rejected it means that series is stationary.

Analytical framework- Contd… Co-integration test- Augmented Engle–Gragner test (AEG) Where is the spot prices crop, is the futures price series. residual (residual) is the cointegration vector. the ADF test is used to test for a unit root in the cointegration vector or residual (for spot price series). For Spot price series where is stationary the spot price and futures price series are co-integrated

Analytical framework- Contd… Graphical presentation Growth rates Standard Deviation Ratio of standard deviation Coefficient of variation Correlation and Regression analysis

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