## Tuesday, May 27, 2008

by Malay Makkar.

### Recent events

India is one of the world's largest importers of edible oil. Soybean and palm oil account for a major share of Indian imports. India's oil consumption is roughly about 120 lakh metric tonnes (MT) of which about 70 lakh MT is imported. Of the oils imported by India, Soyabean and palm form the primary constituents, since these are produced in sufficient quantities to be exported by the US and Malaysia and hence, are relatively cheaper. Futures contracts on NCDEX and MCX had daily turnover of roughly Rs.400 crore a day and Rs.100 crore a day, respectively.

In early May 2008, soyabean oil prices were 30% higher than the level of the previous year. The government believes that futures trading has helped induce this price rise. Hence, on 7 May 2008, futures trading was suspended for soyabean oil for four months (along with this, futures on potato, chana and rubber were also banned). All existing futures contracts were liquidated at the closing price as on that date on the respective exchanges. Owing to fears that such a move was imminent, the open interest on NCDEX, MCX and NBOT in soyabean oil had already halved to 0.15 million MT. For a comparison, monthly consumption is roughly a million MT.

Using powers under the Essential Commodities Act, 1955, various state governments have imposed stock limits on the edible oil traders in their states. On 10 May, the UP government imposed an inventory ceiling of 25 MT for any trader of edible oil. Large traders who normally carried stock in excess of 250 MT are now forced to live within a tiny limit of 25 MT. Similar stock limits were also imposed by the Maharashtra Government the same week. The central government has also advised state governments to strengthen their enforcement machinery to act against hoarding' edible oil.

### How much risk does an oil importer carry?

The task of importing Soyabean and palm oil exposes the edible oil trade to fluctuations in prices occurring internationally. A fall in price of the commodity has a severe impact, since it leads to losses and lower valuations of even the existing inventory. Oil refiners in India quote a daily selling price for the oils based on the international trends. The benchmark exchanges for trade in these two oils are the Chicago Board of Trade for soya oil and the Malaysian Derivatives Exchange for palm oil. In order to derisk or hedge their future risks, importers short-sell futures contracts. Selling futures helps in assuring a constant return to the importer and removes the uncertainty that he might have faced without a similar contract.