10 things to watch out for when trading agri commodity futures - Motilal Oswal
10 things to watch out for when trading agri commodity futures - Motilal Oswal

10 things to watch out for when trading agri commodity futures

Like most commodities, the prices of agri commodities are also determined by the forces of demand and supply. However, agri products (soft commodities), have certain unique features. As an investor looking to take delivery in agri commodities or as a trader looking to take a short term view on agri commodities, you need to be aware of some key factors that impact agri commodity futures.

10 features to watch out for with respect to agri commodities

Demand patterns are normally a key factor in determining agri commodity prices. Normally, demand for agri commodities tend to be more spread out. While demand tends to move prices in the short term, it is supply that tends to impact prices of agri commodities in the long term.

Supply patterns are an important factor in determining prices of agri commodities. Most commodities tend to have concentrated supply patterns. For example supply of mentha and castor is largely dominated by India. On the other hand, palm oil is largely dominated by suppliers from Indonesia and Malaysia. Agri commoditise like cotton have a more widespread supply and demand structure.

Duty structure makes a lot of impact on landed prices in various countries. Many countries tend to impose restrictions on imports of certain agri commodities to protect the interests of the domestic producers. This tends to distort the price as also the demand patterns for these agri commodities.

Governments also impose restrictions on futures trading in select agri products. This is quite common in India. We have seen governments in the past intervening and banning futures trading in agri commodities that are politically sensitive. Similarly, governments also closely monitor accumulation of open interest in agri commodities if it has the propensity to impact the price of the agri commodity.

Rise of alternatives is a key risk for agri commodities. The world is constantly innovating and finding new ways to meet changing demand patterns. Demand patterns also change because people become more health conscious. We have seen that happen in India in case of edible. There has been a major shift in demand pattern out of groundnut and domestic oilseeds towards palm oil and soya bean oil.

There are also alternate applications that become relevant at different points of time. For example, sugar, palm oil and corn all have alternate uses in the sense that they are also useful inputs in the manufacture of bio-fuels. Depending on the shifting demand patterns and shifting pricing economics, the price of agri commodities can be largely impacted by alternate applications.

Volatility is another key factor to watch out for in agri commodities. That has a variety of implications. Firstly, higher volatility eposes you to greater price risk, especially in case of more globally volatile agri commodities. Secondly, higher volatility also entails higher margins to be deposited with the exchange and that is likely to mean higher outlays. The exchange may also be directed by the government to impose higher margins o sensitive commodities to reduce volatility.

Trade and transport infrastructure makes a big difference to the pricing of agri products. In most agri products, the supply tends to be concentrated in a handful of producers. That means the availability of quality transport and trade infrastructure becomes critical to ensure that supply reaches on time and keep price in check.

Warehousing facilities also make a big difference to the prices of agri commodities. Most of the agri commodities are soft commodities as they have a shorter shelf life. This is in contrast to hard commodities like zinc, copper and nickel which have a very long shelf life. The quality of warehousing services becomes extremely critical so that agri commodities can be moved around more seamlessly. Remember, in the post-GST scenario, the movement of goods across India has become a lot simpler.

Last, but not the least, weather and external attacks also have a big impact on agri supply and prices. Most of the agri crops in India are Kharif crops and are largely dependent on monsoons. In the absence of well spread out irrigation facilities, the dependence on rain makes these agri commodity price extremely vulnerable.

Agri commodity prices are not just determined by the forces of demand and supply but also other unique factors. An understanding of these is critical to trading in agri futures.

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