1. What you will learn
By the end of this lesson you will be able to read a commodity contract specification and say exactly what one contract represents, convert a price move into a rupee change per contract without a unit error, and explain why grade, delivery location and delivery window are part of the price rather than details attached to it. You will also know which Indian institutions govern commodity derivatives and where the live specifications are published. This is education about contract mechanics, not advice about trading any commodity.
2. The idea explained
A commodity is a physical good, and every physical good has to be described before it can be priced. Cotton of one staple length is not cotton of another. Gold of one fineness is not gold of another. Crude oil from one field has a different sulphur content and density from crude oil elsewhere. A price quoted without a grade is therefore incomplete, and so is a price quoted without a place, because moving a tonne of anything costs money and takes time.
A futures exchange solves this by standardising. The contract specification names the commodity, the acceptable grade or grades with permitted tolerances, the quantity that one contract represents, the unit in which the price is quoted, the minimum price movement, the months that trade, the last trading day, the tender and delivery period, the approved delivery centres and whether settlement is by physical delivery or in cash. Once all of that is fixed, buyers and sellers who have never met can agree on a single number, because everything else has already been agreed for them.
The quotation basis deserves particular care. A contract may represent one hundred kilograms while the price is quoted per kilogram, or represent one kilogram of a precious metal while the price is quoted per ten grams. The rupee value of a one-rupee price move is the contract quantity expressed in quotation units, and getting that wrong is the single most expensive arithmetic error a beginner makes.
Physical settlement brings its own machinery. A seller who intends to deliver must have the goods in an approved warehouse, assayed and certified to the contract grade, and represented by an electronic warehouse receipt. Storage, insurance, assaying and transport are real costs borne by someone, and they are part of why a futures price and a local spot price are rarely identical. That difference, the basis, is specific to a grade and a location.
Finally, treat every specification as perishable. Lot sizes, delivery centres, permitted grades and expiry calendars are revised by exchanges from time to time. Learn the structure of a specification, not a particular version of one.
3. The market, the regulator and the rulebook
Commodity derivatives in India are regulated by the Securities and Exchange Board of India, the statutory regulator constituted by an Act of Parliament, which took over this responsibility from the former commodity markets regulator. The Board registers the exchanges, the brokers and the clearing members, and makes the regulations under which commodity contracts are designed and approved.
The exchanges, principally the Multi Commodity Exchange and the National Commodity and Derivatives Exchange, publish the contract specification for every product on their own websites, together with the circulars that amend them. Their associated clearing corporations novate trades, call margins and run settlement. Warehousing for agricultural commodities sits under a separate statutory warehousing regulator, which accredits warehouses and oversees the electronic negotiable warehouse receipt system.
Read primary sources. For what a contract is, open the exchange's specification page for that contract and note the date. For what is permitted, read the regulator's circulars. Never quote a lot size, a margin percentage, a delivery centre list or a transaction charge from memory or from a course note, because all of them change.
Worked example
4. Worked example
Every figure here is invented. Consider a fictional contract in a metal called Brindavan Zinc, specified as one hundred kilograms per contract with the price quoted in rupees per kilogram.
The price is four hundred and fifty rupees per kilogram. One contract therefore represents four hundred and fifty multiplied by one hundred, which is forty-five thousand rupees of underlying value.
The price rises by twenty rupees per kilogram. The change in value of one contract is twenty multiplied by one hundred, which is two thousand rupees. A trader holding five contracts sees a change of ten thousand rupees.
Now the unit error. Suppose the learner assumed the quote was per tonne. One hundred kilograms is one-tenth of a tonne, so a twenty-rupee move would appear to be worth twenty multiplied by one tenth, which is two rupees. The true answer is a thousand times larger. A position sized on that mistake would be a thousand times bigger than intended.
Finally the basis. Suppose the local spot price for the same grade at the buyer's own town is four hundred and forty-two rupees per kilogram while the futures price is four hundred and fifty. The basis is minus eight rupees per kilogram, reflecting freight from the delivery centre, storage and local supply. Hedging removes most of the price risk but leaves this basis, which is why a hedge is rarely exact.
5. Common mistakes and how to fix them
The first mistake is treating a commodity price as a single number. Record four identifiers with every observation: the commodity and grade, the unit of quotation, the delivery location or contract month, and the timestamp.
The second is confusing contract quantity with quotation unit. Write both on the page before any multiplication, and state the rupee value of a one-unit move explicitly.
The third is assuming a futures price is the price you will pay locally. It is not; the basis stands between them and varies by grade and place.
The fourth is memorising a lot size or delivery centre. Look them up on the exchange's specification page each time, and cite the date.
The fifth is treating commodity futures as an easy source of gains. They are leveraged instruments; most active traders lose money, leverage magnifies losses exactly as it magnifies gains, tip groups are a well-documented route to loss, past performance does not indicate future results, and a SEBI-registered investment adviser is the person to consult about an individual's own money.
Key takeaways
6. Board summary
A commodity price is meaningless without grade, unit, location and time. The contract specification fixes quantity, quotation unit, tick, expiry, delivery window and settlement type. The rupee value of a price move equals the move multiplied by the contract quantity in quotation units. Physical settlement runs on approved warehouses, assaying and electronic warehouse receipts, all of which cost money. Specifications change, so they are looked up on the exchange's own page and cited with a date.
Check your understanding
7. Practice and self-check
One. A contract represents fifty kilograms quoted per kilogram at six hundred rupees. Contract value? Thirty thousand rupees.
Two. The price rises fifteen rupees per kilogram. Change per contract? Seven hundred and fifty rupees.
Three. A trader holds four such contracts. Total change? Three thousand rupees.
Four. A contract represents one kilogram of a metal quoted per ten grams at seventy thousand rupees. Contract value? One kilogram is one hundred units of ten grams, so seventy lakh rupees.
Five. The quote rises by five hundred rupees per ten grams. Change per contract? Fifty thousand rupees.
Six. Spot at a buyer's town is nine hundred and eighty rupees while the futures price is one thousand. What is the basis? Minus twenty rupees per unit.
Seven. Name the four identifiers every commodity price observation needs. Commodity and grade, unit, delivery location or contract, and timestamp or expiry.
Eight. Where do you find the current delivery centres for a contract? On the exchange's contract specification page, cited with the date read.
Nine. Why does a hedge rarely eliminate all risk? Because grade, location and timing differences leave basis risk.