Blog by Gnanasekar Thiagarajan

Important points for investors to reflect upon before trading Gold futures and Spot Markets

Upanishads advise mankind who is seeking happiness to look at oneself and bring about the change rather than trying to change the world and circumstances. Similarly one should understand clearly what kind of investor you are before trying your hand at gold investment/speculation. There are different market participants who use the futures and spot platform as per their needs and objectives. One need to know clearly the kind of investor/speculator you are and accordingly layout some rules and disciplines before trading. There is no point trying to become a long-term investor after the trade goes against you.


The Hedging abuse in commodity markets

The most abused financial instrument called “Hedging” in Commodities

The commodity markets were intended to help agricultural producers manage risk and find buyers for their products. The stock and bond markets were intended to create an incentive for investors to finance companies. Speculation emerged in all of these markets almost immediately, but it was not their primary purpose.

Hedging involves taking an offsetting position in a derivative in order to balance any gains and losses to the underlying asset. Hedging attempts to eliminate the volatility associated with the price of an asset by taking offsetting positions contrary to what the investor currently has.

The main purpose of speculation, on the other hand, is to profit from betting on the direction in which an asset will be moving.  Speculators make bets or guesses on where they believe the market is headed. For example, if a speculator believes that a commodity,  is overpriced, he or she may short sell the respective commodity futures and wait for the price it to decline, at which point he or she will buy back the stock and receive a profit. Speculators are vulnerable to both the downside and upside of the market; therefore, speculation can be extremely risky.

Overall, hedgers are seen as risk averse and speculators are typically seen as risk lovers. Hedgers try to reduce the risks associated with uncertainty, while speculators bet against the movements of the market to try to profit from fluctuations in the price of commodity futures.


Manipulation of Commodity Futures Prices-History repeats itself

Prevention and deterrence of manipulation are major objectives of the regulation of futures market worldwide. Recent instance of manipulation on futures exchanges has sadly seen history repeat itself over and over again and in the very same exchange, which has had a history of similar instances in the past. Surprisingly, not only other agri commodities like Guar seed and Chana, but in the very same commodity, Castor seed few years back in 2016.

This either means that,  for reasons best known to the regulators and the exchange involved, a blind eye is being turned towards such manipulation, or the regulator being new to this market is finding it difficult to get a grip of the situation and is being consumed by other issues plaguing the equity markets presently, which takes priority over commodity markets.

There were signs of trouble brewing in castor seed futures, which NCDEX should have ideally spotted early with better monitoring. Alarm bells started ringing for NCDEX after officials realised that a large section of buyers was excessively leveraged and might not have over 5 bln rupees needed to honour the delivery. The way in which NCDEX and its clearing corp handled this castor seed crisis threatens to create a major trust deficit among participants in the commodity market. However, this column is not to add oil to fire, but to  suggest a possible permanent solution, so that such instances does not recur again, and more so in Agri commodities. And in that specifically in commodities without an international reference or benchmark.


Importance of emotional stability for trading in edible oil futures

Emotional stability is so very important when it comes to futures and options trading , or derivatives trading. In my twenty years experience in dealing with commodity futures,  I have seen many corporations and individual traders in the edible oi industry who are tigers on physical trading, but pussy cats when it comes to futures trading.

They are not afraid to run huge losses in the cash market hoping for prices to move in their favour, but that is not the case when it comes to futures trading. The same tigers are so impatient when it comes to their stop loss getting hit in futures. They get so irritated and loose their mental stability, which is so pertinent in commodity futures trading.

The most important risk management strategy in futures trading is a stop loss. I have tried so many many times to drill this concept of stop loss into the minds of traders and needless to say only a handful have understood and embraced the concept so far. I think it is mostly due to their confidence in holding on to cash market positions that bleed out of the money only to come back in money subsequently. But, this holding period comes with huge amount of stress, hope and loss of health. Suddenly, god comes into the picture and deals are done with Lord Balaji the deity for prosperity to rescue out of the situation. After the cash position comes back in the money, a visit to Tirupathi is a must to thank god for his kindness and pay back the promised debt.


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