Sebi allows hedge funds to invest in commodity derivatives

Industry:    June, 2017

The Securities and Exchange Board of India (Sebi) has decided to allow Category-III Alternative Investment Funds (AIFs) to participate in the commodity derivatives market. On Wednesday, the Sebi board finalised norms in this regard. Category-III AIFs, also known as hedge funds, become the first category of institutional investors allowed in commodity derivatives.

“We are considering allowing mutual funds in commodity derivatives, but will follow expert advice and move gradually. Commodity derivatives market is a new subject. In case of spot markets, there are issues such as who will be the regulators. The government has decided to set up a committee to look into the matter, a move announced in the Budget,” Sebi Chairman Ajay Tyagi told reporters after the board meeting.

Recently, the regulator has also permitted commodity exchanges to introduce options in commodities.

Category-III AIFs may also be set up by foreign investors. Hence, the Sebi has in a way opened the commodity derivatives market for investors from abroad, too.

However, sector officials said, initially only a few large domestic investment banks and/or private equity-promoted funds would enter this space. Hedge funds have been allowed to participate in all commodity derivative products being traded on the commodity derivatives exchanges as ‘clients’. All rules, including position limits, applicable to clients will apply to them.

T Gnanasekar, director, CommTrendz Research, said: “Initially, the response from funds might remain muted and all will study the situation before jumping into commodity derivatives. I see more domestic funds entering the space and, going by volumes and position limits, their interest might remain confined to non- agricultural commodities like precious metals and energy products.”

National Commodity & Derivatives Exchange spokesperson said, “Participation in commodity futures and options would boost overall market participation, depth, and liquidity. Hedgers would also be benefited.” This is important for commodity options to bring liquidity and risk taking.

Mrugank Paranjape, managing director of the Multi Commodity Exchange, said: “We are very happy with the decision. With this, a significant beginning has been made to not only provide access to a fast-growing asset class to the investor community but also to unlock the potential this asset class holds. The presence of AIFs, we are sure, will spur the infusion of research-based information, capital, innovation and new trading strategies in India’s commodity markets, improving the quality of price discovery, lending it a degree of depth and vibrancy which matches the global standards we have long been aspiring for. We are also confident that such depth and vibrancy will, in turn, incentivise hedging interest in India’s commodity derivatives market to a great extent.”

In a circular issued by the Sebi, it prescribed an upper limit of 10 per cent of investable funds in one underlying commodity. This limit is also applicable to these funds in equity derivatives. Hedge funds are allowed to leverage or borrow funds subject to consent from investors in the fund and subject to a maximum limit prescribed for them. They have to take the consent of existing investors for participating in commodity derivatives; those who don’t agree are to be given an exit option. Commodity exchanges have been asked by the Sebi to amend their relevant rules to permit this.

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