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Commodity Market

1. SEBI strengthens risk management norms for commodity Exchanges

Within a year’s timeline of SEBI-Forward Markets Commission (FMC) merger, SEBI was required to make norms to strengthen enforcement of commodities regulations.

SEBI has issued various circulars this month. In one circular, SEBI barred exchanges from sponsoring any programmes run by media channels, which directly or indirectly spread sensitive information. In another circular, it asked Commexes to impose higher margins in less-traded commodities contracts & higher margins for traders having large positions. Besides, the exchanges are required to make fresh contribution towards settlement guarantee fund (SGF) in case of any shortfall. SEBI has also notified that in case of a default-like situation or a default by a broker, the exchanges could force partial liquidation of positions of all other brokers so that the defaulting broker’s positions do not disrupt the whole market.

2. One-year anniversary: SEBI-FMC merger

In view of the completion of the SEBI-FMC merger, SEBI, in order to strengthen the core of the commodities market has introduced new developments in the commodities realm. The decision to expand the list of notified commodities under Securities Contracts (Regulation) Act, 1956 and allowing options trading in the commodity are two such measures which will ensure the transformation of the Indian commodity derivative markets both in terms of products and participants. SEBI also issued a Circular dated September 27, 2016 vide which it directed the commodity exchanges to make quarterly disclosure about disablement of member terminals, along with duration of such activity, due to shortage of funds and margins.

3. Commodity Update: Consultation paper to allow option contracts in commodities

SEBI has issued a Consultation paper dated January 19, 2017 proposing amendments to Securities Contracts (Regulation) (Stock Exchanges and Clearing Corporations) Regulations, 2012 to enable Commodity Derivatives Exchanges to also organize trading in option contracts with commodity futures as underlying. The proposed amendments include amendments to the definition of ‘Commodity Derivatives Exchange’ and ‘National Commodity Derivatives Exchange’ and also the ‘provisions applicable to commodity derivatives exchanges’.

Further, one of the major highlights of the Union-Budget 2017 is further integration of the commodities and securities derivative markets by integrating the participants, brokers, and operational frameworks. The Government has also emphasized that the commodities markets require further reforms for the benefits of farmers. An expert committee will be constituted to study and promote creation of an operational and legal framework to integrate spot market and derivatives market for commodities trading. e-NAM (Electronic National Agriculture Market) would be an integral part of such framework.

4. SEBI allows Options Trading in Commodity Futures

By its circular dated June 13, 2017, 2017, SEBI has stipulated necessary guidelines with regard to product design and risk management framework to be adopted by Commodity Derivative Exchanges for trading in options on commodity futures. The Circular provides that options would be permitted for trading on an Exchange only of those commodity futures as underlying, which are traded on its platform and satisfy the following two criteria i.e. (i) the underlying ‘futures contracts’ on the corresponding commodity is amongst the top five futures contracts in terms of total trading turnover value of previous 12 months and (ii) the average daily turnover of underlying futures contracts of the corresponding commodity during the previous 12 months is at least INR 200 crore for agricultural and agri-processed commodities, and INR 1000 crore for other commodities. Also, the Exchanges willing to start trading in options contracts should take prior approval of SEBI and have been further directed to amend their bye-laws, rules and regulations to bring the provisions of the Circular to the notice of the members of the Exchange. Exchange shall also communicate to SEBI about the status of the implementation of the provisions of the Circular.

5. SEBI allows Category III AIFs to invest in Commodity Derivatives

In another significant move towards development of commodity derivatives market in India, SEBI vide its circular June 21, 2017 has allowed Category-III Alternative Investment Funds (“AIFs”) to participate in the commodity derivatives market, thus opening up the market to institutional investors for the first time. The move is expected to bring in much desired liquidity in commodity derivatives markets and will further improve the quality of price discovery, thereby leading to better price risk management. AIFs may now participate in all commodity derivative products as ‘clients’ and will be subject to all SEBI and Exchanges rules, regulations and instructions as may be applicable to clients. Further, they shall be subject to the reporting requirements as specified by SEBI and to the provisions of SEBI (Alternative Investment Funds) Regulations, 2012. Also, they will not be allowed to invest more than 10% of the investable funds in one underlying commodity. However, these AIFs will be allowed to leverage or borrow subject to consent from the investors in the fund and subject to a maximum limit, as specified by the SEBI from time to time.

6. SEBI modifies norms relating to Investor Protection Fund at National Commodity Derivatives Exchanges

SEBI vide its circular dated June 13, 2017, has modified certain clauses of its previous circular dated September 26, 2016 relating to Investor Protection Fund applicable to the National Commodity Derivatives Exchanges (“Exchange”). The circular mandates the Exchange to set up Investor Protection Fund (“IPF”) and Investor Service Fund (“ISF”) from July 1, 2017. The investor’s claim arising out of a default of a broker/member of the Exchange shall be eligible for compensation from IPF. The funds in IPF shall be credited from all the penalties levied and collected by the Exchange, except for the settlement related penalties (including penalties from delivery default). Also, 1% of the turnover fee charged by the Exchange from its members/brokers or INR 10 lakh, whichever is higher, in a financial year shall be contributed to IPF. However, for deciding the compensation limit, Exchange is free to fix suitable compensation limits in consultation with IPF Trust provided that the amount of compensation available against a single claim of an investor arising out of defaulter by a member broker shall not be less than INR 1 lakh. In addition to above, the circular further provides for determination of legitimate claims, disbursement of claims and utilization of income from IPF. Besides, SEBI also mandated Exchange to set up ISF for providing basic minimum facilities at various Investor Service Centre.

7. SEBI issues Consultation Paper on permitting Category III AIFs in Commodity Derivatives Market

On April 28, 2017, SEBI has issued a Consultation Paper on permitting Category III Alternative Investment Funds (AIFs) in the commodity derivatives market. Based on the recommendations of SEBI Commodity Derivatives Advisory Committee (“CDAC”), SEBI has proposed to allow participation of Category III AIFs in the commodity derivatives market, subject to certain prescribed conditions. Besides general conditions pertaining to reporting requirement and compliance with SEBI circulars, few of the significant conditions includes:

  • AIF’s to participate in all commodity derivatives products as ‘clients’, and all the rules, regulations and instructions issued by SEBI from time to time, including that of position limits as applicable to clients will be applicable on AIFs;
  • AIF’s can’t invest more than 10% of the investable funds in one underlying commodity;
  • AIF’s to make disclosure in private placement memorandum issued to the investors about investment in commodity derivatives; and
  • AIFs may engage in leverage or borrow, subject to consent from the investors in the fund and subject to a maximum limit, as specified by the SEBI.
  • SEBI has invited public comments on the draft proposal contained in consultation paper latest by May 20, 2017.
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