A.D.(M.A.Series)

Circular No. 34

September 28 ,1998

To

All Authorised Dealers in Foreign Exchange

Dear Sirs,

Hedging of Commodity Price Exposure on International Commodity Exchanges

As authorised dealers are aware, Reserve Bank had constituted a Committee on Hedging through International Commodity Exchanges under the Chairmanship of the then Deputy Governor, Shri R.V. Gupta. The recommendations of the Committee have been examined in consultation with the Government of India and it has been decided to allow Indian entities having genuine underlying exposure to access International Commodity Exchanges for Exchange Traded futures contracts/options (purchases only) for hedging commodity price exposures. The facility of hedging will, however, not be available for oil and petroleum products. Accordingly, Indian corporates desirous of availing of this facility may submit their applications to the Chief General Manager, Exchange Control Department, Reserve Bank of India, Central Office, Mumbai-400 001 through an authorised dealer for permission for hedging of their commodity price exposures on off-shore Commodity Exchanges, giving the following information/documents.

1. Name and address of the organisation:  
2. A brief description of hedging to be undertaken:
   1. description of business activity and nature of risk.
   2. instruments proposed to be used for hedging.
   3. exchanges and brokers through whom the risk is proposed to be hedged and credit lines proposed to be availed.
   4. size/average tenure of exposure/total turnover in a year expected at the Exchanges with peak positions thereof and the basis of calculation.
    
3. Copy of the Risk Management Policy approved by the Board of Directors covering:
   1. risk identification.
   2. risk measurements.
   3. guidelines and procedures to be followed with respect to revaluation/monitoring of positions at the Exchanges.
   4. names and designations of the officials within the organisation who are authorised to undertake hedging transactions and upto what extent.
    
4. Any other relevant information.

The Reserve Bank will consider grant of standing approval for hedging the commodity price risks to the corporate. It will not relate to individual transactions.

2. Authorised dealers may scrutinise the applications received from the Indian corporates for hedging of commodity price exposures on the International Commodity Exchanges as per the detailed operational guidelines indicated in Annexure II and forward the applications to Reserve Bank.  
3. The following consequential amendments may be carried out in the Exchange Control Manual (Volume-I).
   1. A new paragraph 3C.11 may be added as per Slip 1 and its entry made in the Index to Chapter 3.
   2. The existing Annexure to Chapter 3 may be numbered as Annexure I and a new Annexure II may be added as per Slip 2.
    
4. Authorised dealers may bring the contents of this circular to the notice of their constituents concerned.  
5. The directions contained in this circular have been issued under Section 73(3) of the Foreign Exchange Regulation Act, 1973 (46 of 1973) and any contravention or non-observance thereof is subject to the penalties prescribed under the Act.

Yours faithfully,

KHIZER AHMED

Chief General Manager

 

Slip 2

[AD/MA 34/1998]

Annexure II

Guidelines for accessing International Commodity Exchanges for hedging of commodity price exposures

The operative procedure is aimed at ensuring hedging of genuine exposures and checking incidences of speculative transactions. Indian corporates who seek to access International Commodity Exchanges for Exchange Traded futures contracts/options (purchases only) for hedging of commodity price exposures (exluding oil and petroleum products) should submit their applications to the International Banking Division of an authorised dealer giving the following details.

1. Name and address of the organisation:
    
2. A brief description of hedging to be undertaken:
   1. description of business activity and nature of risk.
   2. instruments proposed to be used for hedging.
   3. exchanges and brokers through whom the risk is proposed to be hedged and credit lines proposed to be availed. The name and address of the regulatory authority in the country concerned may also be given.
   4. size/average tenure of exposure/total turnover in a year expected at the Exchanges with peak positions therof and the basis of calculation.
    
3. Copy of the Risk Management Policy approved by the Board of Directors covering:
   1. risk identification.
   2. risk measurement.
   3. guidelines and procedures to be followed with respect to revaluation/monitoring of positions at the Exchanges.
   4. names and designations of the officials within the organisation who are authorised to undertake hedging transactions and upto what extent.
    
4. Any other relevant information.

The authorised dealer will forward the application to Reserve Bank together with its recommendations for consideration.

2. While forwarding the proposal, the authorised dealer should ensure that it is supported by a copy of the Memorandum placed before the Board of Directors on the Risk Management Policy of the corporate concerned with specific reference to hedging of commodity price exposure. The Memorandum should, inter alia, incorporate details relating to -
   1. Risk identification i.e. mismatch between purchases & sales in respect of the commodity concerned, producers' risk etc.
   2. Estimate of maximum exposure in physical positions.
   3. Estimate of maximum exposure to future positions.
   4. Risk monitoring and reporting.

3.

The focus will be on risk containment. Only off-set hedge will be permitted. All standard exchange traded futures/options will be permitted. As regards options, only purchases will be allowed. Tenure of exposure shall be limited to 6 months. Tenure beyond 6 months would require Reserve Bank's specific approval. LI>Access will be restricted to off-shore recognised Commodity Exchanges which are regulated by the concerned regulatory authorities. Besides, the corporates who want to hedge Commodity Price Exposure shall have to ensure that there are no restrictions on import/export of the commodity hedged under the Exim Policy in force.

 

4. After grant of approval by Reserve Bank, the corporate concerned should negotiate with off-shore Exchange brokers subject, inter alia, to the following:-
   1. Brokers must be clearing members of the Exchanges, with good financial track record.
   2. Brokers should be furnished with a list of the corporate's authorised traders/officers along with copies of their specimen signatures.
   3. Trading will only be in standard Exchange-traded futures contracts/options (purchases only).
   4. All transactions shall be confirmed to Brokers by an authoritised signatory of the corporate.
   5. Brokers shall be contractually obliged to confirm each and every deal on the same day.
    
5. The corporate should maintain a Special Commodity Exchange Account with the authorised dealer. The terms and conditions regulating the conduct of this account vis-a-vis remittances incidental to hedging to the overseas brokerage firms will be advised by authorised dealer to the corporate.  
6. A copy of the Broker's Month-end Report(s), duly confirmed/countersigned by the corporate's Financial Controller should be submitted monthly, to Reserve Bank through the authorised dealer together with confirmation that all off-shore exchange positions are/were backed by physical exposures within 15 days of the close of the month.  
7. The periodic statements submitted by Brokers, particularly those furnishing details of transactions booked and contracts closed out and the amount due/payable in settlement, should be checked by the corporate. Unreconciled items should be followed up with the Broker and reconciliation completed within 3 months.  
8. The corporates will not undertake any arbitraging/speculative transactions. The monitoring of transactions in this regard will be the responsibility of the authorised dealers.  
9. An annual certificate from Statutory Auditors should be submitted by the company at the time of the renewal of the permission with the recommendations of the authorised dealer. The certificate should confirm that the prescribed terms and conditions have been complied with and that the corporate's internal controls are satisfactory.

Slip 1

[AD/MA 34/1998]

Hedging of Commodity Exposure on International Commodity Exchanges

3C.11 Indian corporates seeking access to International Commodity Exchanges for hedging of commodity price exposures other than for oil and petroleum products, should approach Reserve Bank through an authorised dealer. The guidelines to be followed by authorised dealers/corporates in this regard are given in Annexure II. Authorised dealers should scrutinise the applications in accordance with the guidelines and forward the proposals with their recommendations to the Chief General Manager, Exchange Control Department, Reserve Bank of India, Central Office, Mumbai-400 001.