Jaipur: Foreign portfolio investors could soon get access to a wider segment of India’s commodity derivatives market, with a SEBI panel clearing a proposal to allow them to trade in non-agricultural commodity contracts that involve physical delivery.
The proposal is expected to be put out for public consultation before the market regulator finalises the framework.
The move would mark a shift in the way foreign portfolio investors participate in India’s commodity derivatives market, where their access has so far largely been limited to cash-settled contracts.
Three-day exit rule proposed
The proposed framework is designed to ensure that FPIs do not end up taking physical delivery of commodities in India.
Under the plan, foreign investors would have to exit or roll over their positions at least three days before the delivery period begins.
If an FPI continues to hold the position beyond the prescribed deadline, the open position could be transferred to a designated trading member or trading-cum-clearing member.
This mechanism is intended to deal with the practical difficulties that overseas investors could face when a derivative contract moves into its physical-delivery stage.
Brokers could take over open positions
The designated member would take the transferred position into its proprietary account and would then be responsible for managing the associated margin and market risk.
The broker would also have to ensure that the position remains within the applicable limits. If the transferred position pushes the broker beyond its permitted position limit, the excess would have to be reduced within the prescribed timeframe.
The proposal could also require FPIs and designated members to enter into an agreement covering the transfer arrangement. Any charges arising from the transfer could be recovered from the FPI under the agreed terms, apart from penalties imposed by the exchange or clearing corporation where applicable.
What could change for the commodity market?
The proposal could open another channel for overseas investors to participate in India's commodity markets.
Non-agricultural commodities such as gold, silver, crude oil and natural gas could see greater participation if the framework is implemented.
For exchanges and market participants, higher participation from FPIs could potentially translate into deeper liquidity and better price discovery. It could also make India's commodity derivatives market more attractive to global investors already active in similar markets overseas.
However, the impact will depend heavily on the final rules, particularly those governing position limits, margins, risk management and the transfer of positions.
Why the proposal matters
Physical delivery is one of the key differences between commodity derivatives and purely cash-settled contracts. Allowing FPIs to trade such contracts while requiring them to exit before the delivery stage gives foreign investors greater market access without necessarily requiring them to handle the underlying commodity.
For brokers, however, the proposed arrangement could create additional responsibilities. Taking over an FPI's position could expose the member to market and funding risks, making clear contractual arrangements and adequate risk controls important.
Consultation paper awaited
The proposal is still at the consultation stage and should not be treated as a final SEBI rule.
The regulator is expected to seek views from market participants before deciding on the final framework. Changes could be made to the proposal based on the feedback received during the consultation process.
For FPIs, therefore, the key question is not simply whether access will be allowed, but what conditions SEBI ultimately attaches to that access.
Aurelius Business View
The proposal is a positive development for the evolution of India's commodity derivatives market.
Foreign participation can bring additional liquidity and a broader pool of market participants. At the same time, physical-delivery contracts require tighter controls than cash-settled products.
The proposed three-day exit mechanism appears aimed at addressing that issue by keeping the physical-delivery obligation away from FPIs while giving designated market members a mechanism to manage any positions that remain open.
The final framework will be important. If SEBI can strike the right balance between easier foreign participation and effective risk controls, the move could strengthen India's position as a deeper and more globally connected commodity derivatives market.
Investment Disclaimer
This article is for informational and educational purposes only and does not constitute investment advice. Commodity derivatives and other financial market instruments involve significant risks. Readers should conduct their own research and consult a SEBI-registered financial adviser before making investment or trading decisions.
