Capital markets regulator SEBI is mulling the idea of allowing foreign portfolio investors (FPIs) to enter the exchange-traded commodity derivatives market even as its advisory committee may take up the subject for discussion in its next meeting, scheduled for November 15.
The commodity derivatives advisory committee (CDAC) is a body that is mandated by SEBI to suggest steps to boost market efficiency, transparency, and safety, apart from advising on matters pertaining to warehouses, product introduction in the segment, contract designs, and delivery.
As of now, FPIs are not allowed to trade in the commodity derivatives market because of regulatory issues pertaining to Foreign Exchange Management Act (FEMA). Also, there have been concerns that FPI participation may come with volatility owing to their exits and entries that may be sudden. This may be mitigated with adequate checks and balances, according to experts.
If allowed, FPIs entering the commodity derivatives space are expected to deepen the segment. In India, the traded volume daily on the commodity exchanges is in the range of Rs 30,000 to Rs 40,000 crore, according to reports. It may be recalled that China decided to open up its key commodity derivatives to qualified foreign investors in a bid to attract more overseas investment and also deepen its markets.
In the pipeline from 2018
The proposal to allow foreign portfolio investors to trade in the commodity derivatives space has been in the pipeline for some years now, according to reports. It may be recalled that in August 2019, SEBI’s board approved the framework for foreign portfolio investors to trade in the commodity derivatives market. Also, in June 2021, SEBI held a meeting with international commodity trading firms and FPIs to discuss the plan to allow FPIs to trade commodity futures on local exchanges.
In 2015, the commodities regulator Forward Markets Commission (FMC) officially merged with capital markets regulator SEBI. Following the merger, there have been expectations that this would lead to permitting FPIs to participate in the commodity derivatives space over the years.
Eligible foreign entities and commodity derivatives market
India’s market regulator has also allowed eligible foreign entities (EFEs) with actual exposure to the Indian commodity markets to participate in the commodity derivatives market in October 2018. Till then, foreign entities were not allowed to participate directly in the Indian commodity derivatives market, even if such entities were into the import or export of commodities. According to the country’s market regulator, the eligible foreign entities would be residents of countries whose securities/commodity derivatives market regulator is in a bilateral agreement with SEBI. Also, the minimum net worth for such eligible foreign entities would be $500,000.
Also, if such EFEs have registered with SEBI as FPIs or overseas venture capital investors, they have been allowed to take part in the commodity derivatives market as EFE as long as they have actual exposure to the physical commodity markets and also that there is a distinct separation of funds, commodities or securities under the different registrations., according to SEBI.
Now, with the CDAC meeting reported to come up on November 15, the committee may discuss the option of merging EFE with the FPI segment. According to some reports, FPIs may be given permission to participate in certain contracts like base metal or precious metal, before they are extended an entry into some agri contracts.
Earlier, as part of the initial phase of its attempt to expand the commodities market, SEBI permitted Category III alternative investment funds (AIFs), portfolio management services and mutual funds to take part in commodities.
According to data, FPIs make up nearly 10 to 15 per cent of the overall volume of the equity markets that include derivatives and cash. The entry into the exchange-traded commodity derivatives space will enhance the space, according to experts.
Market regulator SEBI-appointed advisory committee may take up the issue of allowing FPIs to participate in the commodity derivatives market in its upcoming meeting, reports note. The move is expected to deepen the commodity derivatives space further.
Who regulates the commodity derivatives market?
The commodity derivatives market is regulated by capital markets regulator SEBI. Until 2015, it was regulated by the Forward Markets Commission (FMC).
Are FPIs allowed to participate in the commodity derivatives market?
As of now, foreign portfolio investors are not allowed to participate in the commodity derivatives market, unless through the eligible foreign entities route, and subject to conditions.
Who are eligible foreign entities with respect to the commodity derivatives space?
Eligible foreign entities are residents of countries (outside India) whose market regulators have a bilateral agreement with SEBI. Also, these EFEs would need to have actual exposure to Indian physical commodity markets and have a net worth of $500,000.