Spot and futures prices relationship questions

spot and futures prices relationship questions

Main issues. • Forwards and Answer: Forward/futures prices are linked to spot prices. Contract Let the dividend yield be d, then there is the following relation. The futures market is not always a reliable predictor of future spot prices. To answer these questions, we must first understand the concepts of forward spot and futures prices quickly back to the relationship we stated above: The futures. This study empirically examines the market which reacts first in India by assessing the relationship between spot and future prices of agricultural commodities.

View PDF Download PDF Abstract This study empirically examines the market which reacts first in India by assessing the relationship between spot and future prices of agricultural commodities such as Soya bean, Chana, Maize, Jeera and Turmeric for a period from January to March traded in NCDEX, Empirical results suggest the existence of long-run equilibrium relationships between futures and spot prices for all the 5 agricultural commodities that were taken for this study.

Regression model pertaining to Lead-Lag relationship between Spot and Future markets suggests that for the commodities Maize, Jeera and Turmeric, both the spot and future markets price plays the leading role in the price discovery process and said to be informationally efficient and reacts more quickly to each other. Keywords Agriculture; Price discovery; Regression model; Futures; Cointegration Introduction The agricultural production system in India has undergone profound changes over the decades due to adoption of green revolution technologies coupled with price support policy of the government [ 1 ].

regression - Correlation between spot and futures - Cross Validated

After independence, various policy initiatives undertaken for protecting agriculture sector affected the growth in agricultural commodities markets adversely.

The Essential Commodities Act envisaged price and movement protection applicable to various agricultural commodities, particularly food grains such as paddy, wheat, coarse grains and pulses to protect the interests of producers as well as of consumers.

During the process of economic liberalization, it was felt that there is a need to reorient policies and regulations in agricultural commodities. The Khusro Committee recommended reintroduction of futures trading in most of the major commodities [ 2 ].

The Government of India constituted another committee headed by Professor K. Kabra in June on Forward Markets [ 3 ], which also emphasized the need for introduction of futures trading in 17 commodity groups covering a wide range of agricultural commodities. It also recommended strengthening of the Forward Markets Commission FMC and various amendments in Forward Contracts Regulation Act to bring fairness and efficiency in futures trading operations.

spot and futures prices relationship questions

As a result, the Government of India issued notifications on April 1, and permitted futures trading except options trading for a wide range of agricultural commodities. Futures contracts help in performing two important management functions, i. Price discovery is the process of revealing information about future spot prices through the future markets.

It is useful for producers as they get a fair idea about the prices likely to prevail at a future point of time and hence, can allocate their limited available resources among various competing commodities for optimizing their profits.

It also provides food processors and consumers an idea about prices at which the specific commodity would be available at a future point of time.

Although futures trading in a large number of agricultural commodities were re-introduced in India in the yeargovernment is always skeptical about its efficiency and likely impact on the price movement of agricultural commodities.

The ban on futures trading of some major agricultural commodities in February makes it imperative to explore whether the futures market has really been able to achieve its above-stated objectives of price discovery and risk management or not.

Thus, understanding the influence of one market on the other and role of each market segment in price discovery is the central question in market microstructure design and has become an increasingly important research issue among academicians, regulators and practitioners alike as it provides an idea about the market efficiency, volatility, hedging effectiveness and arbitrage opportunities, if any.

25 Questions about Derivatives

The essence of the price discovery function hinges on whether new information is reflected first in changes of future prices or changes of spot prices. Hence, there exists lead-lag relationship between spot and futures market by information dissemination. In addition, the anonymity of trading is guaranteed by the clearing house. What are the financial requirements related to creating an opening position? If contracts are traded and opened in accordance with futures positions, are buyer and the seller to pay the commission and to deposit collateral.

She is usually only a fraction of the contract value and will cover the loss of value that can be sustained per contract within a specified period. An impairment loss occurs when the contract price to the detriment of the position holder changes either by sale or price increase declining price of purchase. The initial margin described are an integral part of a security system that guarantees the fulfillment of the transactions on exchanges. What do the terms long and short mean?

In commodity futures trading, the holders of long positions as long in the future and the positions are referred to as long positions. Analogously, holders of short positions short positions short in the future. The terms can be used also for the trade of physical goods. In this case, farmers producing potatoes or already have in stock and sell them later want as long referred to in the goods.

In the cash market are short as Potato processors who have not sold yet produced goods. Therefore, it is advisable to buy futures and hedge against the risk of rising prices, because they are the product eg Processing potatoes not yet possess.

spot and futures prices relationship questions

From the moment of opening position a profit and loss calculation mark-to-market method performed for each purchase and each sale position. An operator has contracts sold purchasedthe growth in value is his account when prices are falling loss of value credited the positions loaded.

When prices rise, however, the buyer will receive a credit, while the seller's account is debited. The recorded changes in value are called variation margin. The price changes constantly, to the detriment of the position holder, his account is debited again and again.

It has a shortfall on, the position holder will receive a margin call Margin Call. What is a closeout? By standardizing the contracts long or short positions may be opened when the corresponding order situation at any time.

At the same time, the standardization also allows the reverse process, the closing of positions prior to the maturity of a contract. Since the conclusion and fulfillment of the commodity futures trading - unlike the spot trading on the cash market eg the delivery of the harvest.

Experience has shown that even make almost all market participants from the "Closing" mentioned process use.

Good Questions to Ask Early in the Relationship

This requires a seller buyer prior to maturity contracts according to the number of its open positions to buy sell and thus solves its market positions. The Open Interest the number of open futures positions is called. If a contract is traded, the trading volume is 1 and the number of open positions is also 1 a buy and a sell position so together yield the open interest of 1 Represents the seller's position plain, in which he buys and other market participants soldsales increased to 2, while the open interest remains the same, for now is only one other market participants holder of the short position.

Which obligations have to be fulfilled after the last trading day? In contrast, are settled usually price index for futures with cash settlement cash settlement any items that are still open after the last trading day, against a reference price. Since the income balance by this time already held daily, now only the credit or debit of the last day difference occurs at the index to the accounts of participants. The physical so actual delivery is excluded in this process, as satisfying the performance obligation.

Which functions do commodity futures exchanges fulfill? On commodity futures exchanges in the world by numerous market participants and proven capabilities can benefit. These are based on the previously outlined features of commodity futures trading and can be divided into individual companies and macroeconomic functions. Functions of single operational point of view: Compensation of temporal or spatial imbalances promoting competition What do commodity futures exchanges contribute to improve information and what is meant in this context by the price control function?

On stock exchanges the market assessments of many market participants come together in a concise form. Since these are published by data provider, the Internet and in print media, commodity futures exchanges are suitable to increase market transparency and to homogenize the information level.

spot and futures prices relationship questions

From a price guide function is called in this context, because the contract prices ideally reflect future market conditions reliably, so that they can be used by companies in the agri-food sector as the basis of their production and marketing decisions. Also, the Future prices can as a reference price for spot or forward transactions in the cash market EFP - see below: Anyone can benefit from the advantages of information improvement, without engaging yourself in the stock market.

The price transparency thus makes a significant contribution to promoting competition.

spot and futures prices relationship questions

Which market participants are there in the commodity futures exchange environment and which goals do they pursue? The market participants in commodity futures markets are generally divided into four groups hedgers, speculators, arbitrageurs and spread traders.

All of them, transactions can be traced back to the motives of risk management and profit, with their weighting of participants is different participants. The Hedger market participants are called, opening the stock market positions to hedge against price changes in the goods they want to buy or sell on the spot market in the future.

The items are usually resolved at the time the goods flow again. Therefore, such as hedge business called price protection as a temporary substitution of the existing or expected cash transaction be considered: Someone who continue to sell goods purchase would like to sell buy this early on in the stock market and later liquidated its first incoming performance obligation.

Consequently, a hedger always acts both on the spot market and the commodity futures market. Have hedge transactions to the target that caused the cash market losses are largely offset by increases in value of the stock market positions due to price changes and the hedger thus early pricing and costing accuracy attained barter.

Speculators sell buy futures, when they expect falling rising prices and speculate on being able to close out this later at a lower higher price. Accordingly, they usually have no interest in the possession of the goods and are active almost exclusively in the stock market. Speculators are among the group of people who take the risk of hedgers. With the liquidity provided you provide them thus make an important contribution to the functionality of the market.