It may have banned futures trading in wheat and rice, but the Indian government isn’t averse to dabbling in a bit of derivatives trading in international markets itself to get a competitive price for its imports of wheat this year.
It expects to import between two and five million tonnes (mt) this year, to make up for what it expects will be another year when it ends up procuring less than it needs to feed the public distribution system and maintain a buffer stock. “The cabinet has given the food ministry a mandate to import up to 5mt of wheat for 2007-08,” said a senior government official who did not wish to be identified.
Last year, the government hedged (or took positions on derivatives) the import of a small volume of wheat in an effort to understand the model. Last month, the government formed an empowered committee headed by U.K. Sinha, chairman and managing director of UTI Asset Management Co. Ltd, a state-owned mutual fund company, to work out the mechanics of hedging. This will help the government avoid paying more for wheat in case prices in the international markets rise.
The recommendations of the committee, to import around 2mt of wheat at competitive rates using the global derivatives market, will now be taken up by a group of ministers headed by external affairs minister Pranab Mukherjee. If the ministers accept the recommendations, the government will implement the hedging strategy and import wheat between October 2007 and January 2008.
“It was mandated that the committee should aim to purchase 2mt options/futures contracts, which will result in the physical delivery of wheat at specified ports between October 2007 and January 2008. This could be increased to 3mt depending on the need,” said another official close to the development who did not want to be identified. He confirmed that the Food Corporation of India would implement the contracts.
According to Amit Sinha, director, Agriwatch, an agriculture consulting firm, hedging makes sense since international prices are volatile.
“By selling or buying at a currently quoted futures price, I can lock in my price, which means that whatever happens to the actual prices in the future, I have already made my deal today at a particular price. In the market, the process of hedging transfers the price risks from a hedger to the speculator, and therein lies the utility of the futures markets,” he explained.
Most large buyers or sellers of wheat in the world have some kind of hedging mechanism in place, said Sinha, adding, “There is no reason why large government bodies involved in buying and selling commodities should not hedge.”
Although the government estimates this year’s wheat production at 73-74mt, it sees itself having to import 2-5mt.
India’s decision to hedge its purchase of wheat makes sense in an international scenario where, according to Agriwatch’s Sinha, there could be a shortage of wheat. “The year-end stock (of wheat) in December 2006 was 16% below the previous year’s figures. These are likely to impact wheat prices,” he said.
The committee has also estimated that the price of imported wheat between October 2007 and January 2008 will be around Rs1,331 per quintal including freight, handling and administrative charges.
According to data provided by Agriwatch, the international price of wheat is around $220 a tonne (Free On Board), which is about Rs950 per quintal. The cost to a buyer after paying for freight, insurance and handling is around Rs1,170-1,180 a quintal in a port city.