When it’s commodity futures,trade with care

Commodity futures can make you a king or a pauper, all in a day. Before you decide to try your hand, Ram Sahgal suggests a few key points you ought to keep in mind.

   THE process of initiating a trade in any commodity futures product is similar to that of trading in equity F&O, save for one difference — in commodity futures trading, you have a choice of opening a trading account with your broker if you're not interested in taking delivery or open a demat account if you want to take/give delivery as most commodities that are traded on commodity bourses, such as gold, are compulsory delivery contracts. In equity F&O, you can trade with just a trading account since there is no delivery involved. 
    Brokers say since most retail clients are only interested in trading and not in taking delivery, they opt for a trading account. A trading account usually takes around two working days to open, while opening a demat account takes anywhere from 3-5 days. Two days is what it usually takes for a broker to generate a unique client code that's imperative to trade on an exchange. The cost of opening a trading account can range from Rs 100-150 while for a demat account, brokers could charge anywhere up to, but usually not more than, Rs 500. Last, but not the least, an investor should always remember that futures are high-risk instruments as they can subject one to huge losses while yielding high gains. 
    Ever come across a refrain on how somebody made a killing or lost a fortune over a few days, or even hours of playing the gold futures market? Were you ever tempted to also try your hand at commodity futures to 'double' or 'treble' your money within a matter of days? In case you do, there are a few key points worth taking note of. 
GETTING STARTED 
First, for a lay investor who has never bet on a commodity, national-level commodity bourses such as MCX, NCDEX, NMCE and, of late, ICEX, offer platforms for such trades. As in equities, you've got to go to a broker who's a member on one or more of these exchanges. Names that come to mind are not very different from those active in the equities space, who offer trading through commodity broking arms. MF Global, Kotak Commodities, Angel Broking, Motilal Oswal and those who offer pure commodities play like Admisi Commodities and Geojit Comtrade are a few. Brokerage can vary between 0.02% and 0.05% of the contract value for a single transaction. This excludes service tax and turnover tax. 
CHOOSING A COMMODITY 
Once you've chosen the platform, you're ready for a tryst with commodities. Gold is generally the preferred product for a retail investor and one that one probably understands better than any other non-agri commodity. For gold, which is the most popular product among retail investors, MCX, as any broker would tell you, is your best bet as the commodity along with other metals and energy products is the most liquid on that bourse. Apart from kilo gold, which is costly for ordinary investors, there's a mini contract and a gold guinea contract. A kilo contract is one in which the minimum lot size, as the name suggests, is one kilo. A gold mini contract has a lot size of 100 grams that's cheaper while the gold guinea is the cheapest at 8 grams. Kilo gold is a bi-monthly contract while mini gold and gold guinea are monthly contracts. 
HIGH-RISK HIGH-REWARD GAME 
Before actually taking the plunge — you can open your trading account and still not trade — bear in mind that you've come to make a quick buck on a market that can subject you to huge losses while yielding huge gains. A futures contract is one that facilitates buying or selling of an asset at a pre-determined price for delivery at a future date. If you don't want to take delivery, you can square off your position and get out like you do in the equities F&O space — sell what you have bought and vice versa — which is what most traders playing in non-agri contracts do, say brokers. Also, since you don't want to give or take delivery, you have to instruct your broker to cash settle or roll over your positions prior to the expiry of a contract or else be faced with a penalty. (Make sure to avoid this with your broker when you are entering into a trade). In kilo or mini gold, the tender period, or the period when a client's marked for delivery, is the first to the sixth day of a contract expiry month. In guinea gold, the tender period starts from five preceding days of a contract expiry month. The beginning of the tender period sees the client having to successively put up additional margin to hold her position. 
    A futures contract allows an 
investor to take a large position in any asset by paying just a fraction of the contract value known as the initial margin. This means if a kilo gold contract is priced at, say, Rs 16,750 per 10 gram, one lot will translate into Rs 16.75 lakh. The margin required to be put up with the broker to trade one lot works out to Rs 67,000. A huge sum for one with not so deep pockets! So the best bet would be to go for the mini or gold guinea contract, where the margin for trading at 4% would work out to Rs 6,700 and Rs 530, or so. Here, it must be borne in mind that brokers usually ask their clients to put up a buffer amount in addition to the margin that's put up to trade to protect against price volatility. 
    The tick size, or the minimum amount by which the price can rise or fall, in all the three contracts is Re 1. A Re 1 change in price either way translates into a gain or loss of Rs 10,000 for a kilo contract and Rs 1,000 for a 'cadbury' or 100-gram contract. In the case of an 8-gram guinea, one tick movement will result in a price change of Re 1 for 8 grams. 
    If the market moves by an excessive amount, say by Rs 1,000 upwards or down, it can lead to a client's margin being wiped out. That is what makes futures such a risky proposition and necessitates that clients trade with strict stop losses in place. Where there's high reward, there's high risk and a first-time investor in the commodities futures market should pay heed to this fact since her positions are marked-to-market daily, meaning that losses or gains are settled on a daily basis. 
    ram.sahgal@timesgroup.com