As a precious metal, gold is literally as old as man. In fact, every ounce of gold that has been mined since the beginning of history is still in existence in some form or the other. That is, perhaps what makes gold one of the most sought after metals in the world! Indians are great collectors of gold. It is estimated that Indian households own nearly 950 tonnes of gold and has a value of nearly $1 trillion. Some of the world’s largest central banks hold a good chunk of their forex reserves in the form of gold. For many years, at least till the gold standard was formally abandoned in 1971 by Richard Nixon of the US, gold was used as a backing to issue currency. But above all, gold is the metal of choice for the massive jewellery demand across the world and India and China remain two of the world’s largest consumers of gold. Such an interesting commodity with a rich lineage is also available to trade on the commodity exchanges
To understand gold futures trading, first you must understand global Spot Gold..
The above chart depicts the movement of spot gold in the global spot market. Globally spot gold is measured in terms of $/troy ounce (oz) and is expressed as $1258.88/oz. This global spot price forms the basis on which the domestic price of gold is set on a daily basis. Let us see how exactly this conversion works.
1 Troy Ounce (oz) = 31.1035 grams of gold
Hence we can also say that the global spot price of gold is $1258.88 per 31.1035 grams of gold
This dollar price of gold can now be converted into INR at the current exchange rate of Rs.66/$...
Thus the price of 31.1035 grams of gold can also be expressed as Rs.83,086.08.
For the sake of gold futures trading, the unit of measurement is the rate per 10 grams.
Hence the price can also be expressed as Rs.26,713/10 grams
Now this forms the basis for pricing the gold in India. In addition, there is import duty on gold plus GST that is payable. Then, other levies, cess, bank charges and insurance costs will be added up to arrive at the spot price in India in rupee terms. This figure will also depend on the domestic demand and supply of gold and the seasonal fluctuations. To that if you add the cost of carry, you will get the futures price on which you get to trade gold futures on the commodity exchanges.
Types of gold contracts available in the Indian commodity markets
At any point of time there are 6 monthly gold commodity contracts that are available for trading. The gold futures contract will expire on the 5th day of each calendar month and a total of 6 months of gold contracts will be available. As on August 20th 2017, there will be gold futures contracts available for September 2017, October 2017, November 2017, December 2017, January 2018 and February 2018. The normal gold futures contract has a lot size of 1 kilogram (1000 grams) and has a notional value of nearly Rs.3.1 million. The approximate SPAN margin on gold is around 4% and the extreme loss margin is 1%. These low margins are more due to the low volatility in the price of gold.
However, since the 1 KG lot size is quite large, there are also sub-sets of the gold futures contract that are available in lower lot size denominations. For example, there is the Gold Mini contract which has a lot size of 100 grams. There is a smaller gold futures contract called the Gold Guinea contract which will have a lot size of 8 grams. The lowest denomination is the Gold Petal contract which has a lot size of just 1 gram and is intended to encourage wide participation in gold futures. The most popular contract as well as the most liquid is the Big Gold contract which has a lot size of 1 kilogram.
How is the gold contract settled?
Remember, you can either do a square up of your gold transaction or you can take physical delivery or give physical delivery of gold. In case you are the seller of gold you are required to give delivery of gold of serially numbered gold bars supplied by LBMA approved suppliers only. Also your delivery should be of 995-purity and below that will not be accepted. In case you give delivery of 999-purity, gold then you will get a premium credit for the higher grade offered. The alternative to physical delivery of gold is to square off your position. Remember, since the settlement of the gold contract is on the 05th of each month, you need to give notice of non-delivery and square off your position latest by the 01st of the month. While there are four sub-contracts available, it is Big Gold with a lot size of 1 kilogram that is the most popular and also the most liquid. Gold futures surely form an important method of taking your view and your position in gold without the hassles of storage and safety.
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