The
introduction of crude oil futures on the multi-commodity exchange
(MCX) on February 9, 2005, has given Indian investors an opportunity
to trade in arguably the most heavily-traded commodity in the
world, oil. And the response has been sufficiently positive, with
volumes having crossed Rs 100 crore per day already. Of course,
that's peanuts compared to the staggering $22 trillion (Rs 9,68,00,000
crore) the world's leading commodity exchange, the New York Mercantile
Exchange (NYMEX), trades on the commodity every single day. Then,
NYMEX began trading in crude oil futures in 1983.
Investor Profile
On the MCX, 50 per cent of the volumes have
been corporate in nature, with investor interest largely coming
from traders and speculators. Says Rajni Panicker, Head (Research),
Refco Commodities: "This product is meant for all investors,
as crude oil is the best bet against inflation. Also, it attracts
a lot of speculators, since crude oil is influenced to a large
extent by global political and economic situations." Adds
Anjani Sinha, CEO, MCX India: "It works very well for hedgers-if
prices go up, they gain from futures' profit, and if prices go
down, the loss is offset by savings on consumption. Hedgers protect
themselves against the risk of price fall through crude oil futures."
However, it's not just corporates and speculators
who can take advantage of crude oil futures. The MCX, by allowing
individual investors to start off with a 100-barrel contract by
paying only 5 per cent margin money, has ensured that the common
retail investor also gets a shoo-in. But while for speculators
this is just another instrument to punt on, retail investors should
take expert advice from commodity brokers before putting their
money in.
Investing In Crude Futures
The rules of the game are simple. The minimum
you can buy on one contract is 100 barrels of crude. So if crude
price is at Rs 2,200 a barrel, the total value of the contract
is Rs 2,20,000, of which you pay 5 per cent, or Rs 11,000, to
get the contract. If a month later, crude prices rise to Rs 2,400
per barrel, you make a clean profit of Rs 20,000 (Rs 200 per barrel
for 100 barrels). Of course, if prices move the other way, you
have to shell out the difference (see Crude Facts: Spot Vs. Futures
for a more detailed example). In case of additional volatility
(sudden price spike upwards or downwards), a special margin is
determined by the MCX and imposed on both buy and sell positions
for three days. As an investor in crude oil futures, therefore,
you have to keep a sharp eye out for price movements, both domestic
and international, as well as for other factors that could influence
prices.
What are these factors? "Any economic
or political uncertainty has a bearing on crude oil prices,"
says Panicker. That would include interest rate movements, OPEC
(Organisation of Petroleum Exporting Countries) announcements,
terrorism-related incidents, inflation, even war. "It would
also be vital to keep an eye on price determinants like the international
demand and supply situation, any unrest in the oil producing countries
and any related development in the us (the world's largest consumer
of oil)," says Sinha of MCX India.
As for the current outlook, global events
have brought about a significant rise in the price of crude recently,
with prices touching $57 (Rs 2,508) on March 21, 2005, up from
around $48 (Rs 2,112) a month ago. At the time of writing, crude
prices were quoting at around $54 (Rs 2,376) a barrel. With global
indicators in favour of buying at this point in time, its time
for you to get into crude futures.
Crude Facts: Spot Vs. Futures |
Gaurav, a businessman
(hypothetical, of course), decides to invest in crude looking
at the current volatility and in anticipation of a further
price rise. He has available Rs 25,000 in cash, which he can
invest in either of two ways: buy crude from the spot market,
or buy crude futures.
Spot Market
At a price of, say, Rs 2,000 per barrel, Rs 25,000 will
fetch him only 12 barrels of crude in the spot market, with
Rs 1,000 left over. The problem with buying from the spot
market is that if Gaurav doesn't sell these 12 barrels on
the same day (price rise or not), he has to take delivery
of the barrels. Assuming he does that, and assuming that
a month later the crude price rises to Rs 2,250 per barrel,
Gaurav can get Rs 27,000 for the 12 barrels for a gain of
Rs 3,000.
Crude Futures
Futures are a better option for Gaurav, since as a relatively
small investor, he would not be interested in taking delivery.
So, he buys two one-month contracts of 100 barrels each,
that's 200 barrels of crude futures, on MCX. Here, for 200
barrels worth Rs 4,00,000 (at Rs 2,000 per barrel), he has
to shell out only Rs 20,000, which is the 5 per cent margin
money required. A month later, when the price moves up to
Rs 2,250 per barrel, 200 barrels fetch him a profit of Rs
50,000 (at Rs 250 per barrel for 200 barrels).
That may sound alluring, but if profits can be manifold,
so can potential losses. For instance, a Rs 250 fall in
the crude price would see Gaurav lose Rs 3,000 if he had
bought from the spot market, but a neat Rs 30,000 (that's
Rs 50,000, the total difference in price, less the Rs 20,000
margin money he paid earlier) if he had bought futures.
Even if he wants to extend the futures contract by another
month, he has to pay his dues (Rs 30,000) first, and then
another 5 per cent margin money (on the new price) for the
next month. Investing in crude futures, therefore, requires
immaculate knowledge of the industry, and some daring.
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