Curbs on futures trade may hit food supply chain

India's year-long suspension of futures trading in key farm commodities is crimping the use of risk management tools such as hedging across its food supply chain, spurring inventory cuts as forward purchases get scaled back.

Monday's halt, targeting items like soybeans, edible oils, wheat, rice, and chickpeas, was one of India's most dramatic steps since it launched commodity futures in 2003. But the ban on access to futures contracts may fuel volatility in domestic markets by denying traders the tools crucial to planning decisions, forcing them to cut stocks, delay long-term purchases and sales, and even limit imports.

"In the absence of futures, markets will remain clueless about shortfalls and excesses," said Govindbhai Patel, a managing partner at edible oil trader GGN Research. "This could create even more volatility in prices."

Patel's firm, which used to buy edible oils for prompt and far-month deliveries, and hedge on domestic exchanges, will now only secure its needs for up to 10 days at a time, he said. "We used to hedge 70 to 80 per cent of our volumes. As the hedging option is not available, we are scaling back operations," said Patel.

India is the world's biggest importer of vegetable oil, with monthly overseas purchases of about 1.3 million tonnes.

Futures contracts were critical in ensuring the smooth flow of imports, allowing buyers and traders to hedge part of their shipments after signing deals, said Sudhakar Desai, president of the Indian Vegetable Oil Producers' Association.

"Everyone in the supply chain has to change the way they conduct operations in the absence of hedging tools and an indicative price," he said.

Price discovery could get more localised in the absence of national futures prices.

Regional processors who buy crops from farmers will feel the pinch, as they are deprived of advance sales through futures contracts.

Manoj Agrawal, MD of Maharashtra Oil Extractions, said his firm could no longer hedge soyoil on commodity exchanges after buying soybean from farmers.

"If we can't hedge the finished goods, we can't take the risk of holding large amounts of raw material," he added. "We would operate at limited capacity."

In turn, lower inventories at stockists and processors could hurt farmers, said Nitin Kalantri, a processor of pulses in Latur.

Farmers tend to flood the market with produce after harvests, but usually find willing buyers among processors and warehouse users keen to build up inventory sufficient for a year, Kalantri said.

"If everyone scales back operations because of uncertainty, then farmers would struggle in finding buyers and prices could fall."

Soybean farmers also worry about not being able to use benchmark futures prices to time crop sales.