TABLE OF CONTENTS

1. Introduction. 1
1.1.Spot Vs Forward Transactions 4
1.2.Limitations...... 5
2. Company Profile. 7
3. History of Commodity trading and Precious Metals.. 9
3.1. Commodity trading in India.... 9
3.2. Kabra committee report...... 10
3.3. Forward Market Commission.. 12
3.4. Multi-commodity exchange of India13
3.5. National Commodity and Derivatives Exchange limited 15
3.6. History of Gold Market... 19
3.6.1.Gold Trading.. 20
3.6.2.Production of the Gold
20
3.6.3.Why central Banks Hold Gold
21
3.7.History of silver Market.. 23
3.7.1.Production of silver. ...
24
4. Pricing Commodity Futures..

26

4.1.Investment Vs Consumption Assets..... 26

4.2.Cost of Carry model.... 27
4.3.Pricing Futures Contract on Investment commodities 29
4.4.Pricing Futures Contract on Consumption commodities 32
5. Clearing, Settlement and Risk Management.. 35
5.1.Clearing 35
5.2.Settlement. 37
5.3.Risk Management 40
6. Fundamental and Technical Analysis. 42
6.1.Fundamental

analysis......

42
6.1.1.Demand and Consumption. 42

6.1.2.Consumption of gold in India..

44
6.1.3.Uses of Gold
44
6.2.Technical analysis 46
6.2.1.Dow Theory 46
6.2.2.Basic principles of Technical analysis 50
6.2.3.Line

Chart

51
6.2.4.Bar

Chart..

52
6.2.5.Japanese Candlestick Chart.
55
6.2.6.Chart

Patterns......

59
6.2.6.1. Support and resistance patterns. 59
6.2.6.2 Reversal pattern. 62
6.3. Mathematical Indicators. 64
6.3.1. Moving Average 64
6.3.1.1. Simple moving Average
.. 64
6.3.1.2. Exponential moving Average.. 66
6.3.2. Oscillators.. 68
6.3.2.1. Rate of Change indicators 68
6.3.3. Market Indicators.. 71
7.

References.. 72

ABSTRACT

Aim: An empirical study on precious metals based on fundamental and technical analysis.
Abstract: We study the gold and silver prices based on fundamental analysis like inventories in
the entire globe, central bank reserves and currency fluctuations. We study the Inventories which
will effect due to strikes, political conditions and demand & supply mismatch. According to
central Bank policies and central agreements reserves will various. Currency trading on Dollar
verses Euro or Dollar verses sterling pound causes volatility which leads to gold/silver price
fluctuations.
We forecast the gold and silver prices with advanced technical
analysis tools by using mathematical indicators and Market indicators like
Simple moving average, Exponential moving average. Market indicators are
the indicators used by technical analysts to study the trend of the market as a whole.
Oscillators like Rate of change Indicators. We use mathematical indicators to
know the average prices of the commodity, and we use Oscillators to identify
overbought and oversold conditions.

In this study we are applying both fundamental and technical

analysis for predicting the future price actions based on historical data and
previous trends.

LIST OF FIGURES
1. Consumption of Gold...................................................................................................... 43
2. Primary trend and secondary reactions............................................................................. 47
3. Three Phases of bull market.............................................................................................. 48
4. Three Phases of a bear market.......................................................................................... 49
5. Line chart.......................................................................................................................... 51
6. Bar Chart of silver............................................................................................................. 52
7. Bar chart of Gold.............................................................................................................. 54

8. Bar Chart of Crude oil...................................................................................................... 55

9. Japanese candlesticks of Silver......................................................................................... 56
10. Japanese candlesticks of crude oil.................................................................................... 57
11. Japanese candlesticks of Gold.......................................................................................... 58
12. Support and resistance levels............................................................................................ 61
13.Head and shoulder formation............................................................................................... 62
14. EMA Chart.........................................................................................................................

68
15. ROC Chart..........................................................................................................................

70

LIST OF TABLES

1. Active contracts traded in MCX.. 14

2. Comparative Data for Three Periods Value of Turnover. 17
3. Active contracts traded in NCDEX.. 18

4. NCDEX indicative warehouse charges.. 30

5. Highest, Lowest and Closing prices of Silver52
6. Highest, Lowest and closing pricesof Gold.... 53
7. Highest, Lowest and closing Prices of Crude oil.............................................................. 54
8. Prices of Silver.................................................................................................................. 55
9. Prices of Crude oil............................................................................................................ 56
10. Prices of Gold.................................................................................................................. 57
11. Highest, Lowest and Closing Prices of Gold................................................................... 59
12. Highest, Lowest and closing prices of Silver.................................................................... 63
13. Gold price Five days Simple Moving Average................................................................. 65
14. Gold price of Five Day EMA.........................................................................................

66
15. 30 days gold price of 7 day ROC................................................................................... 69

CHAPTER 1

INTRODUCTION

Trading on derivatives first started to protect farmers from the risk of their values
against fluctuations in the price of their crop. From the time it was sown to the time it was ready
for harvest, farmers would face price uncertainty. Through the use of simple derivative products
the farmers can transfer their risk (i.e. fully or partially) by locking the price of their products.
This was developed to reduce the risk of the farmers. Lets take an example when a farmer who
sowed his crop in June which he would receive his harvest in September may face uncertainty in
prices over the period because of the oversupply they are selling at a very low cost.
In 1848, the Chicago Board of Trade (CBOT) was established to bring farmers and
merchants together. A group of traders got together and created the `to-arrive' contract that
permitted farmers to lock in to price upfront and deliver the grain later. Today, derivative
contracts exist on a variety of commodities such as corn, pepper, cotton, wheat, silver, etc.
Besides commodities, derivatives contracts also exist on a lot of financial underlying like stocks,
interest rate, exchange rate, etc.
Due to the high volatility in Financial Market with high risk & low rate of return
had made investors to choose alternate investments such as Bullion market in Commodity
market. In India gold has traditionally played a multi-faceted role. Apart from being used for
armament purpose, it has also served as an asset of the last resort and a hedge against inflation
and currency depreciation. But most importantly, it has most often been treated as an investment.

Many people have become very rich in commodity markets. It is one of the areas
where people can make extraordinary profits within a short span of time. For example, Richard
Dennis borrowed $1600 and turned it into a $200 million fortune in about ten years.
Definition of Derivatives: A derivative is a product whose value is derived from value of one or
more underlying assets or variables in a contractual manner. The underlying asset can be equity,
forex, commodity or any other assets.
For example: A wheat farmers may wish to sell their harvest at a future date to eliminate
the risk of a change in prices by that date.
The Forwards Contracts (Regulation) Act, 1952, regulates the forward/ futures
contracts in commodities all over India. However when derivatives trading in securities was
introduced in 2001, the term security in the Securities Contracts Regulation Act, 1956 (SCRA),
was amended to include derivative contracts in securities.
Products and participants:
Derivative contracts are of different types. The most common ones are forwards, futures, options
and swaps. Participants who trade in the derivatives market can be classified under the following
three broad categories - Hedgers, Speculators, and Arbitragers.
1. Hedgers: Hedgers face risk associated with the price of an asset. They use the futures or
options markets to reduce or eliminate this risk.
2. Speculators: Speculators are participants who wish to bet on future movements in the
price of an asset. Futures and options contracts can give them leverage; that is, by putting in
small amounts of money upfront, they can take large positions on the market. As a result of this
leveraged speculative position, they increase the potential for large gains as well as large losses.
3. Arbitragers: Arbitragers work at making profits by taking advantage of discrepancy
between prices of the same product across different markets. If, for example, they see the futures

price of an asset getting out of line with the cash price, they would take offsetting positions in the
two markets to lock in the profit.

Spot versus forward transaction:

Let us try to understand the difference between spot and derivatives contract.
Every transaction has three components like trading, clearing and settlement. A buyer and seller
come together, negotiate and arrive at a price this is trading. Clearing involves finding out the net
outstanding, that is exactly how much of goods and money the two should exchange.
For example A buys goods worth Rs.1000 from B and sells goods worth Rs.400 to B.
On a net basis A has to pay Rs.600 to B. Settlement is the actual process of exchanging
money and goods.
In a spot transaction, the trading, clearing and settlement happens immediately, i.e.
on the spot. For example on 1March 2009, Suman wants to buy some gold. The goldsmith quotes
Rs.15000 per 10 grams. They agree upon this price and Suman buys 20grams of gold. He pays
Rs.30000 to the goldsmith and collects his gold. This is a spot transaction.
Now suppose Suman does not want to buy the gold on the 1 March, but wants to
buy it a month later. Then the goldsmith quotes Rs.15050 per 10 grams. They agree upon the
forward price for 20 grams of gold that Suman wants to buy and Suman leaves. A month later, he
pays the goldsmith Rs.30100 and collects his gold. This is a forward contract, a contract by
which two parties permanently agree to settle a trade at a future date, for a stated price and
quantity. No money changes hands when the contract is signed. The exchange of money and the
underlying goods only happens at the future date as specified in the contract. In a forward

contract the process of trading, clearing and settlement does not happen immediately. The trading
happens today, but the clearing and settlement happens at the end of the specified period.

A forward is the most basic derivative contract. We call it a derivative because it

derives value from the price of the asset underlying the contract, in this case gold. If on the
1st of April, gold trades for Rs.15100 in the spot market, the contract becomes more valuable to
Suman because it now enables him to buy gold at Rs.15050. If however, the price of gold drops
down to Rs.15000, he is worse off because as per the terms of the contract, he is bound to pay
Rs.15050 for the same gold. The contract has now lost value from Sumans point of view. Note
that the value of the forward contract to the goldsmith varies exactly in an opposite manner to its
value for Suman.

Limitations of the Study:

1. The suggestion is based on the study on Fundamental and Technical

Analysis such as price movement, Relationship of gold with other
factors, Volumes and Open Interest (OI).
2. This analysis will be holding good for a limited time period that is
based on present scenario and study conducted, future movement on
gold price may or may not be similar.

CHAPTER 2

GEOJIT BNP PARIBAS FINANCIAL

SERVICES LTD

Geojit BNP Paribas Financial Service was founded by Mr. C.J. George and Mr.
Ranajit Kanjilal as a partnership firm in the year 1987. And in the year 1993 Mr. Ranajit Kanjilal
retired from the firm and Geojit became a proprietary concern of Mr. C.J. George. It became a
Public limited company by the name Geojit Securities Ltd. in the year 1994. The Kerala State
Industrial Development Corporation Ltd (KSIDC) Became a Co-promoter of Geojit by taking
24% stake in the company in the year 1995. Geojit listed at The Stock Exchange, Mumbai (BSE)
in the year 2000. In 2003 the Company was renamed as Geojit Financial Services Ltd. (GFSL).
In July 2005, the company is also listed at The National Stock Exchange (NSE). Geojit is a
charter member of the Financial Planning Standards Board of India and is one of the largest DP
brokers in the country. On March 13, 2007 the formation of Geojit BNP Paribas Financial
Services Ltd., was announced in Mumbai and Paris. Through a preferential allotment, BNP
Paribas had taken 27% stake in Geojit, which will eventually increase to 34.35%. BNP Paribas
has one of the largest international banking networks with significant presence in Asia and the
United States. With presence in more than 85 countries the bank has a headcount of more than
138000. With this take over Geojit has become Geojit BNP Paribas Financial Services LTD in
April 2009. Currently Geojit BNP Paribas has more than 500 branches, 4.7 lakhs clients and
offers services in Equities, Futures and Options, Mutual Funds, Life and General Insurance,
Portfolio Management services, Loan against shares.
The online trading was first introduced by the Geojit BNP Paribas to their clients
that allows the customers to track the markets by setting up their own market watch, receiving

research tips, stock alerts, real-time charts and news and many more features enable the customer
to take informed decisions

CHAPTER 3

HISTORY OF COMMODITY TRADING &

PRECIOUS METALS

Commodity trading in India:

The history of organized commodity derivatives in India goes back to the
nineteenth century when the Cotton Trade Association started futures trading in 1875, barely
about a decade after the commodity derivatives started in Chicago. Over time the derivatives
market developed in several other commodities in India. Following cotton, derivatives trading
started in oilseeds in Bombay (1900), raw jute and jute goods in Calcutta (1912), wheat in Hapur
(1913) and in Bullion in Bombay (1920). However, many feared that derivatives lead to
unnecessary speculation in essential commodities, and were harmful to the healthy functioning
of the markets for the underlying commodities, and also to the farmers.
With a view to restricting speculative activity in cotton market, the Government of Bombay
prohibited options business in cotton in 1939. Later in 1943, forward trading was prohibited in
oilseeds and some other commodities including food-grains, spices, vegetable oils, sugar And
cloth. After Independence, the Parliament passed Forward Contracts (Regulation) Act, 1952
which Regulated forward contracts in commodities all over India. The Act applies to goods,
which are defined as any movable property other than security, currency and actionable claims.
The Act prohibited Options trading in goods.

The Act envisages (imagine) three-tier regulation:

1) The Exchange which organizes forward trading in commodities can regulate
trading on a day-to-day basis,
2) The Forward Markets Commission provides regulatory oversight under the
powers delegated to it by the central Government,

3) The Central Government - Department of Consumer Affairs, Ministry of

Consumer Affairs, Food and Public Distribution - is the ultimate regulatory
authority.

In 1970s and 1980s the Government relaxed forward trading rules for some commodities.
The Kabra committee report
After the introduction of economic reforms since June 1991 and the consequent
gradual trade and industry liberalisation in both the domestic and external sectors, the
Government of India appointed in June 1993 a committee on Forward Markets under
chairmanship of Prof. K.N. Kabra.
The committee was setup with the following objectives:
1. To assess

The working of the commodity exchanges and their trading practices in India

To make suitable recommendations with a view to making them compatible

with those of other countries

2. To review the role that forward trading has played in the Indian commodity markets
during the last 10 years.
3. To examine the extent to which forward trading has special role to play in promoting
exports.
4. To suggest measures to ensure that forward trading in the commodities in which it is
allowed to be operative remains constructive and helps in maintaining prices within
reasonable limits.
The committee submitted its report in September 1994. The recommendations of the Committee
were as follows:

 The Forward Markets Commission (FMC) and the Forward Contracts (Regulation) Act,
1952, would need to be strengthened.
Due to the inadequate infrastructural facilities such as space and telecommunication
facilities the commodities exchanges were not able to function effectively. Enlisting more
members, ensuring capital adequacy norms and encouraging computerisation would
enable these exchanges to place themselves on a better footing.
In-built devices in commodity exchanges such as the vigilance committee and the panels
of surveyors and arbitrators are strengthened further.
The FMC which regulates forward/ futures trading in the country should continue to act a
watch.dog and continue to monitor the activities and operations of the commodity
exchanges. Amendments to the rules, regulations and bye-laws of the commodity
exchanges should require the approval of the FMC only.

All the exchanges have been set up under overall control of Forward Market
Commission (FMC) of Government of India.

FORWARD MARKET COMMISSION:-Forward Markets Commission (FMC) headquartered

at Mumbai, is a regulatory authority which is overseen by the Ministry of Consumer Affairs and
Public Distribution, Govt. of India. It is a statutory body set up in 1953 under the Forward

Contracts (Regulation) Act, 1952.

The functions of the Forward Markets Commission are as follows:

1. To advise the Central Government in respect of the recognition or the
withdrawal of recognition from any association or in respect of any other
matter arising out of the administration of the Forward Contracts
(Regulation) Act 1952.
2. To keep forward markets under observation and to take such action in
relation to them, as it may consider necessary, in exercise of the powers
assigned to it by or under the Act.
3. To collect and whenever the Commission thinks it necessary, to publish
information regarding the trading conditions in respect of goods to which
any of the provisions of the act is made applicable, including information
regarding supply, demand and prices, and to submit to the Central
Government, periodical reports on the working of forward markets relating
to such goods;
4. To make recommendations generally with a view to improving the
organization and working of forward markets;
5. To undertake the inspection of the accounts and other documents of any
recognized association or registered association or any member of such
association whenever it considerers it necessary.

Commodity Exchanges in India: The two important commodity exchanges in India are MultiCommodity Exchange of India Limited (MCX), and National Multi-Commodity & Derivatives
Exchange of India Limited (NCDEX).

I. Multi-Commodity Exchange of India Limited (MCX)

MCX an independent multi-commodity exchange has permanent recognition from
Government of India for facilitating online trading, clearing and settlement operations for
commodity futures markets across the country. Key shareholders of MCX are Financial
Technologies (India) Ltd., State Bank of India, NABARD, NSE, HDFC Bank, State Bank of
Indore, State Bank of Hyderabad, State Bank of Saurashtra, SBI Life Insurance Co. Ltd., Union
Bank of India, Bank Of India, Bank Of Baroda, Canara Bank, Corporation Bank. Headquartered
in Mumbai, MCX is led by an expert management team with deep domain knowledge of the
commodity futures markets. Through the integration of dedicated resources, robust technology
and scalable infrastructure, since inception MCX has recorded many first to its credit.
Inaugurated in November 2003 by Shri Mukesh Ambani, Chairman & Managing
Director, Reliance Industries Ltd, MCX offers futures trading in the following commodity
categories: Agri Commodities, Bullion, Metals- Ferrous & Non-ferrous, Pulses, Oils & Oilseeds,
Energy, Plantations, Spices and other soft commodities. MCX has built strategic alliances with
some of the largest players in commodities eco-system, namely, Bombay Bullion Association,
Bombay Metal Exchange, Solvent Extractors' Association of India, Pulses Importers Association,
Shetkari Sanghatana, United Planters Association of India and India Pepper and Spice Trade
Association.
Today MCX is offering spectacular growth opportunities and advantages to a large
cross section of the participants including Producers / Processors, Traders, Corporate, Regional
Trading Centers, Importers, Exporters, Cooperatives, Industry Associations, amongst others

MCX being nation-wide commodity exchange, offering multiple commodities for trading with
wide reach and penetration and robust infrastructure, is well placed to tap this vast potential.

S.NO
1

COMMODITIY
NAME
GOLD

GOLDM

GOLD GUINEA

4
5
6
7
8
9
10
11
12

SILVER
SIVERM
MENTHA OIL
KAPASIA KHALLI
ALUMINIUM
COPPER
NICKEL

13

NATURAL GAS

ZINC
LIGHT SWEET
CRUDE OIL

Active Contracts Traded in MCX

Price/Unit

Trading Lot

Rs /
10Gms
Rs /
10Gms
Rs/ 8Gms

1 KG

MUMBAI

100

Initial
Margin %
7

100Gms

MUMBAI

10

8Gms

14.5

RS/ KG
Rs / 1 KG
Rs/KG
Rs/50 KG
Rs/KG
Rs/KG
RS/KG
RS/KG
Rs/Barrel

30 KG
5 KGS
360 KG

MUMBAI
/AHMEDABAD
AHMEDABAD
AHMEDABAD

30
5
360
200
5000
1000
250
5000
100

8
8
11
6.5
7
12
15.5
11
12

Rs/mmBtu

1250/mmBtu

1250

10.5

10 MT

5 MT
1 MT
250 KG
5000 KG
100/Barrel

Delivery Center

CHANDAUSI

AKOLA
MUMBAI
MUMBAI
MUMBAI

MUMBAI
JNPT-MUMBAI

Multiplier

II. National Commodity & Derivatives Exchange Limited (NCDEX)

National Commodity & Derivatives Exchange Limited (NCDEX) is a
professionally managed online multi commodity exchange promoted by ICICI Bank Limited
(ICICI Bank), Life Insurance Corporation of India (LIC), National Bank for Agriculture and
Rural Development (NABARD) and National Stock Exchange of India Limited (NSE). Punjab
National Bank (PNB), CRISIL Limited (formerly the Credit Rating Information Services of India
Limited), Indian Farmers Fertiliser Cooperative Limited (IFFCO) and Canara Bank by
subscribing to the equity shares have joined the initial promoters as shareholders of the
Exchange. NCDEX is the only commodity exchange in the country promoted by national level
institutions. This unique parentage enables it to offer a bouquet of benefits, which are currently
in short supply in the commodity markets. The institutional promoters of NCDEX are prominent
players in their respective fields and bring with them institutional building experience, trust,
nationwide reach, technology and risk management skills.
NCDEX is a public limited company incorporated on April 23, 2003 under the Companies Act,
1956. It obtained its Certificate for Commencement of Business on May 9, 2003. It has
commenced its operations on December 15, 2003.
NCDEX is a nation-level, technology driven de-mutualized on-line commodity exchange with an
independent Board of Directors and professionals not having any vested interest in commodity
markets. It is committed to provide a world-class commodity exchange platform for market
participants to trade in a wide spectrum of commodity derivatives driven by best global
practices, professionalism and transparency.
NCDEX is regulated by Forward Market Commission in respect of futures trading
in commodities. Besides, NCDEX is subjected to various laws of the land like the Companies
Act, Stamp Act, Contracts Act, Forward Commission (Regulation) Act and various other
legislations, which impinge on its working. NCDEX is located in Mumbai and offers facilities to

its members in more than 390 centres throughout India. The reach will gradually be expanded to
more centres. NCDEX currently facilitates trading of thirty six commodities - Cashew, Castor
Seed, Chana, Chilli, Coffee, Cotton, Cotton Seed Oilcake, Crude Palm Oil, Expeller Mustard
Oil, Gold, Guar gum, Guar Seeds, Gur, Jeera, Jute sacking bags, Mild Steel Ingot, Mulberry
Green Cocoons, Pepper, Rapeseed - Mustard Seed ,Raw Jute, RBD Palmolein, Refined Soy Oil,
Rice, Rubber, Sesame Seeds, Silk, Silver, Soy Bean, Sugar, Tur, Turmeric, Urad (Black Matpe),
Wheat, Yellow Peas, Yellow Red Maize & Yellow Soybean Meal. At subsequent phases trading
in more commodities would be facilitated.
Since 2002 when the first national level commodity derivatives exchange started,
the exchanges have conducted brisk business in commodities futures trading. In the last three
years, there has been a great revival of the commodities futures trading in India, both in terms of
the number of commodities allowed for futures trading as well as the value of trading. While in
year 2000, futures trading were allowed in only 8 commodities, the number jumped to 80
commodities in June 2004. The value of trading in local currency saw a quantum jump from
about INR 350 billion in 2001-02 to INR 1.3 Trillion in 2003-04. The data in the below Table
indicates that the value of commodity derivatives in India could cross the US$ 1 Trillion mark in
2006. The market regulator Forward Markets Commission (FMC) disseminates fortnightly
trading data for each of the 3 national & 21 regional exchanges that have been set up in recent
years to carry on the futures trading in commodities in the country. Exhibit presents comparative
trading data for three fortnightly periods in March, June and September 2005 and brings up some
interesting facts.
The market regulator Forward Markets Commission (FMC) disseminates
fortnightly trading data for each of the 3 national & 21 regional exchanges that have been set up
in recent years to carry on the futures trading in commodities in the country. Below Table

represents comparative trading data for three fortnightly periods in March, June and September
2005 and brings up some interesting facts.

Comparative Data for Three Periods Value of Turnover in USD Millions

Sl.No.

Name of the Exchange

Multi-Commodity Exchange
of India Limited, Mumbai.

National Multi-Commodity
Exchange of India Limited,

16 Mar 05

16 Jun 05

16 Sep 05

to 31 Mar 05

to 30 Jun 05

to 30 Sep 05

$m 3,503.69

$m 4,974.76

$m 11,042.25

$m 135.64

$m 113.13

$m 106.85

$m 5,360.45

$m 7,950.49

$m 10,694.29

$m 8,999.78

$m 13038.38

Ahmadabad.
National Commodity &
Derivatives
Exchange Limited, Mumbai.
Total of three exchanges

$m 21,843.39

Active Contracts Traded in NCDEX

S.NO

Price/Unit

COMMODITIY
NAME
PURE KILO GOLD

Rs / 10Gms

Trading
Lot
1 KG

Delivery
Center
MUMBAI

Multiplier

PURE SILVER

Rs / 1 KG

30 KGS

DELHI

30

18

SILVER 5 (mini Lot)

Rs / 1 KG

5 KG

DELHI

GOLD 100 (mini Lot)

100 Gms

MUMBAI

10

JEERA

Rs / 10
Gms
Rs / Quintal

3 MT

UNJHA

30

100

Initial Margin
%
8

PEPPER

Rs / Quintal

1 MT

KOCHI

10

15

TURMERIC FINGERS

Rs / Quintal

10 MT

NIZAMABAD

100

12

CHILLI LCA 334

Rs / Quintal

5 MT

GUNTUR

50

33

MAIZE

Rs / Quintal

50 MT

NIZAMABAD

500

21

10

GUAR SEED

Rs / Quintal

10 MT

JODHPUR

100

15

11

GUARGUM

Rs / Quintal

5 MT

JODHPUR

50

15

History of Gold:
In India Gold is having a history of more than 7000 years which can find in
religious book of Hindu, where it is considered as a metal of immense value. But
looking at the history of world, gold is found at the Egypt at 2000B.C, which
is the first metal used by the humans value for ornament and rituals. Gold
has long been considered one of the most precious metals, and its value has
been used as the standard for many currencies in history. Gold has been
used as a symbol for purity, value, royalty, and particularly roles that
combine these properties.
As a tangible investment gold is held as part of a portfolio by the countries as a
reserves because over the long period gold has an extensive history of maintaining its value.
However, gold does become particularly desirable in times of extremely weak confidence and
during hyperinflation because gold maintains its value even as fiat money becomes worthless
when the value of currency depreciates.

It has a special role in India and in certain countries, gold Jewelry is worn
for ornamental value on all social functions, festivals and celebrations. It is the popular
form of investment in rural areas between the farmers after having bumper crop or after
harvesting, this all factor makes India as largest consumer (18.7% of world total demand
in 2004) and importer of gold due to its low production, which is negligible, and
untapped gold reserves. This is due to lack of new technology in finding gold reserves
and low interest shown by government in financing, encouraging for exploration
programs in gold mines.
HISTORY OF GOLD TRADING
Gold future trading debuted first at Winnipeg Commodity Exchange (know is Comex) in Canada
in 1972. The gold contract gain popularity among traders, led to many countries had too started
gold future trading. Which include London gold future, Sydney future exchange, Singapore
International Monetary Exchange (Simex), Tokyo Commodity Exchange (Tocom), Chicago
Mercantile Exchange, Chicago Board of Trade (CBOT), Shanghai Gold Exchange, Dubai Gold
and Commodity Exchange are some of the world Top recognized exchange, and in India,
National Commodity and Derivative Exchange (NCDEX) and Multi-Commodity Exchange
(MCX), and National Board of Trade (NBOT) are some Indian exchanges where Gold are traded.
History of gold trading in India is dates back to 1948 with Bombay Bullion Association, which is
formed by the group of Merchants.

PRODUCTION OF GOLD
Till now the total gold is extracted from the mines is about $1 trillion dollar, which is
accumulated in physical form is enough to built Eiffel tower.
Annual gold production worldwide is about US$35 billion and by far the one of
the largest-trading world commodity. Worldwide, gold mines produce about 2,464 tonnes in the

year 2004 from total supply of 3328 tonnes but unable to meet identifiable demand of 3497
tonnes. Gold is mined in more than 118 countries around the world, with the large number of
development projects in these countries expected to keep production growing well into the next
century. Currently, South Africa is the largest gold producing country, followed by the United
States, Australia, Canada, Indonesia, Russia and others, some of these countries also account for
highest gold reserves from potential 50,000 tonnes of world-wide reserves.

Why central banks hold gold

Monetary authorities have long held gold in their reserves. Today their stocks amount to some
30,000 tonnes - similar to their holdings 60 years ago. It is sometimes suggested that maintaining
such holdings is inefficient in comparison to foreign exchange. However, there are good reasons
for countries continuing to hold gold as part of their reserves. These are recognized by central
banks themselves although different central banks would emphasize different factors.
Diversification: In any asset portfolio, it rarely makes sense to have all your eggs in one
basket. Obviously the price of gold can fluctuate - but so too do the exchange and interest rates
of currencies held in reserves. A strategy of reserve diversification will normally provide a less
volatile return than one based on a single asset.
Gold has good diversification properties in a currency portfolio. These stem from the fact that its
value is determined by supply and demand in the world gold markets, whereas currencies and
government securities depend on government promises and the variations in central banks
monetary policies. The price of gold therefore behaves in a completely different way from the
prices of currencies or the exchange rates between currencies.
Physical Security: Countries have in the past imposed exchange controls or, at the worst,
total asset freezes. Reserves held in the form of foreign securities are vulnerable to such

measures. Where appropriately located, gold is much less vulnerable. Reserves are for using
when you need to. Total and incontrovertible liquidity is therefore essential. Gold provides this.

Unexpected needs: If there is one thing of which we can be certain, it is that todays status quo
will not last forever. Economic developments both at home and in the rest of the world can upset
countries plans, while global shocks can affect the whole international monetary system.
Owning gold is thus an option against an unknown future. It provides a form of
insurance against some improbable but, if it occurs, highly damaging event. Such events might
include war, an unexpected surge in inflation, a generalised crisis leading to repudiation of
foreign debts by major sovereign borrowers, a regression to a world of currency or trading blocs
or the international isolation of a country.
In emergencies countries may need liquid resources. Gold is liquid and is
universally acceptable as a means of payment. It can also serve as collateral for borrowing.
Confidence: The public takes confidence from knowing that its Government holds gold - an
indestructible asset and one not prone to the inflationary worries overhanging paper money.
Some countries give explicit recognition to its support for the domestic currency. And rating
agencies will take comfort from the presence of gold in a country's reserves.
The IMF's Executive Board, representing the world's governments, has recognized that the
Fund's own holdings of gold give a "fundamental strength" to its balance sheet. The same applies
to gold held on the balance sheet of a central bank.
Income: Gold is sometimes described as a non income-earning asset. This is untrue. There is a
gold lending market and gold can also be traded to generate profits. There may be an
"opportunity cost" of holding gold but, in a world of low interest rates, this is less than is often
thought. The other advantages of gold may well offset any such costs.

Insurance: The opportunity cost of holding gold may be viewed as comparable to an insurance
premium. It is the price deliberately paid to provide protection against a highly improbable but
highly damaging event. Such an event might be war, an unexpected surge of inflation, a
generalized debt crisis involving the repudiation of foreign debts by major sovereign borrowers,
a regression to a world of currency and trading blocs, or the international isolation of a country.

History of Silver Market

Major markets like the London market (London Bullion Market Association), which started
trading in the 17th century provide a vehicle for trade in silver on a spot basis, or on a forward
basis. The London market has a fix which offers the chance to buy or sell silver at a single price.
The fix begins at 12:15 p.m. and is a balancing exercise; the price is fixed at the point at which
all the members of the fixing can balance their own, plus clients, buying and selling orders.
Trading in silver futures resumed at the Comex in New York in 1963, after a
gap of 30 years. The London Metal Exchange and the Chicago Board of Trade introduced futures
trading in silver in 1968 and 1969, respectively. In the United States, the silver futures market
functions under the surveillance of an official body, the Commodity Futures Trading
Commission (CFTC). Although London remains the true center of the physical silver trade for
most of the world, the most significant paper contracts trading market for silver in the United
States is the COMEX division of the New York Mercantile Exchange. Spot prices for silver are
determined by levels prevailing at the COMEX. Although there is no American equivalent to the
London fix, Handy & Harman, a precious metals company, publishes a price for 99.9% pure
silver at noon each working day.

Production of Silver

Silver ore is most often found in combination with other elements, and silver has
been mined and treasured longer than any of the other precious metals. Mexico is the worlds
leading producer of silver, followed by Peru, Canada, the United States, and Australia. The main
consumer countries for silver are the United States, which is the worlds largest consumer of
silver, followed by Canada, Mexico, the United Kingdom, France, Germany, Italy, Japan and
India. The main factors affecting these countries demand for silver are macro economic factors
such as GDP growth, industrial production, income levels, and a whole host of other financial
macroeconomic indicators.

CHAPTER 3

PRICING COMMODITY FUTURES

The process of arriving a figure at which a person buys and another sells a futures
contract for a specific expiration date is called price discovery. The process of price discovery
continues from the market's opening until its close and also free flow of information is also very
important in an active future market. Futures exchanges act as a focal point for the collection and
distribution of statistics on supplies, transportation, storage, purchases, exports, imports,
currency values, interest rates and other relevant formation. As a result of this free flow of

information, the market determines the best estimate of today and tomorrow's prices and it is
considered to be the accurate reflection of the supply and demand for the underlying commodity.
Price discovery facilitates this free flow of information, which is essential to the effective
functioning of futures market.
We try to understand the pricing of commodity futures contracts and look at how
the futures price is related to the spot price of the underlying asset. We study the cost - of - carry
model to understand the dynamics of pricing that constitute the estimation of fair value of
futures.

Investment assets versus consumption assets

When we are studying futures contracts, it is essential to distinguish between investment assets
and consumption assets. An investment asset is an asset that is held for investment purposes by
most investors. Stocks, bonds, Gold and silver are examples of investment assets. However
investment assets do not always have to be held entirely for investment. As we saw earlier silver
for example, have a number of industrial uses. However to classify as investment assets, these
assets have to satisfy the requirement that they are held by a large number of investors solely for
investment. A consumption asset is an asset that is held primarily for consumption. It is not
usually held for investment. Examples of consumption assets are commodities such as copper,
oil, and pork bellies.
We can use arbitrage arguments to determine the futures prices of an investment
asset from its spot price and other observable market variables. For pricing consumption assets,
we need to review the arbitrage arguments a little differently. We look at the cost of carry
model and try to understand the pricing of futures contracts on investment assets.

The cost of carry model:-

For pricing purposes we treat the forward and the futures market as one and the
same. A futures contract is nothing but a forward contract that is exchange traded and that is
settled at the end of each day. The buyer who needs an asset in the future has the choice between
buying the underlying asset today in the spot market and holding it, or buying it in the forward
market. If he buys it in the spot market today it involves opportunity costs. He incurs the cash
outlay for buying the asset and he also incurs costs for storing it. If instead he buys the asset in
the forward market, he does not incur an initial outlay. The basis for the cost of carry model
where the price of the futures contract is defined as:

F=S+C

Eq (1)

Where
F = Future price

C = Holding cost or carrying cost

S = Spot price

The fair value of future contracts can also be expressed as:

F = S (1+r) t

. Eq (2)

Where:
R = percentage cost of financing
T = time till expiration
Whenever the futures price moves away from the fair value, there would be
opportunities for arbitrage. If F > S (1+r) t or F < S (1+r) t arbitrage would exit. We know that
what is Spot price and what are future price. We should know that what are the components of
the holding cost? The components of holding cost vary with contracts on different assets.

Sometimes holding cost may even be negative. In case of commodity futures, the holding cost is
the cost of financing plus cost of storage and insurance purchased. In case of equity futures, the
holding cost is the cost of financing minus the dividends returns.
Equation (2) uses the concept of discrete compounding, i.e. where interest rates
are compounded at discrete intervals like annually or semiannually. Pricing of options and other
complex derivative securities requires the use of continuously compounded interest rates. Most
books on derivatives use continuous compounding for pricing futures too. When we use
continuous compounding, equation (2) is expressed as:

F = S erT

.. Eq (3)

Where:
r = Cost of financing (Using continuously compounding interest rate)
T = Time till expiration
e = 2.71828
Let us take an example of a future contract on commodity and we work out the
price of the contract. Let the spot price of gold is RS. 1376310gms. If the cost of financing is
15% annually, then what should be the future price of 10gms of gold one month later? Let us
assume that we are on 1 Jan 2009. How would we compute the price of gold future contract
expiring on 30 January? Let us first try to work out the components of cost of carry model.
1. What is the spot price of gold?

The spot price of gold, S = 13763/ 10gms.

2. What is the cost of financing for month?

e0.15 30/365
3. What are the holding costs?
Let us assume that the storage cost = 0

F = S erT = 13763 e0.15 30/365

= 13933.73

If the contract was for a three months period i.e. expiring on 30th March, the cost of
financing would increase the futures price. Therefore, the futures price would be
F = 13763 e

0.15 90/365

= Rs 14281.58

Pricing futures contracts on investment commodities

In the example above we saw how a futures contract on gold could be raised
using cost of carry model. In the example we considered, the gold contract was for 10 grams
of gold, hence we ignored the storage costs. However, if the one month contract was for a
100kgs of gold instead of 10gms, then it would involve non-zero holding costs which would
include storage and insurance costs. The price of the futures contract would then be Rs.14281.58
plus the holding costs.

NCDEX indicative warehouse charges

Commodity
Gold
Silver
Soy Bean
Soya oil
Mustard seed
Mustard oil
RBD palmolein
CPO
Cotton - Long
Cotton - Medium

Fixed charges
(Rs.)
310
610
110
110
110
110
110
110
110
110

Warehouse charges per unit per week

(Rs.)
55 per kg
1 per kg
13 per MT
30 per MT
18 per MT
42 per MT
26 per MT
25 per MT
6 per Bale
6 per Bale

The above table gives the indicative warehouse charges for qualified warehouses that will
function as delivery centers for contracts that trade on the NCDEX. Warehouse charges include a
fixed charge per deposit of commodity into the warehouse, and as per unit per week charge. Per
unit charges include storage costs and insurance charges. We saw that in the absence of storage
costs, the futures price of a commodity that is an investment asset is given by F = S erT Storage

Costs add to the cost of carry. If U is the present value of all the storage costs that will be
incurred during the life of a futures contract, it follows that the futures price will be equal to

F = (S+U) erT

Eq (4)

Where:
r = Cost of financing (annualized)
T = Time till expiration
U = Present value of all storage costs
For understanding the above formula let us consider a one year future contract of
gold. Suppose the fixed charge is Rs.310 per deposit up to 500kgs and the variable storage costs
are Rs.55 per week, it costs Rs.3170 to store one kg of gold for a year (52 weeks). Assume that
the payment is made at the beginning of the year. Assume further that the spot gold price is
Rs.13763 per 10 grams and the risk free rate is 7% per annum. What would the price of one
year gold futures be if the delivery unit is one kg?

F = (S+U) erT
= (1376300 + 310 + 2860) e0.07 1

= 1379470 e0.07 1
= 1379470 1.072508
= 1479493

We see that the one year futures price of a kg of gold would be Rs.1479493. The one year futures
price for 10 grams of gold would be about Rs.14794.93.
Now let us consider a three month futures contract on gold. We make the same
assumptions that the fixed charge is Rs.310 per deposit up to 500kgs, and the variable storage
costs are Rs.55 per week. It costs Rs.1025 to store one kg of gold for three months (13 weeks).
Assume that the storage costs are paid at the time of deposit. Assume further that the spot gold
price is Rs 13763per 10 grams and the risk free rate is 7% per annum. What would the price of
three month gold futures if the delivery unit is one kg?

F = (S+U) erT
= (1376300 + 310 + 715) e0.07 0.25
= 1377325 1.017654
= 1401640.30

We see that the three month futures price of a kg of gold would be Rs. 1401640.30. The three
month futures price for 10 grams of gold would be about Rs. 14016.40

Pricing futures contracts on consumption commodities

We used the arbitrage argument to price futures on investment commodities. For
commodities that are consumption commodities rather than investment assets, the arbitrage
arguments used to determine futures prices need to be reviewed carefully. Suppose we have

F > (S+U) erT

Eq (5)

To take advantage of this opportunity, an arbitrager can implement the following strategy:
I.

Borrow an amount S + U. at the risk free interest rate and use it to

purchase one unit of the commodity.

II. Short a forward contract on one unit of the commodity.

If we regard the futures contract as a forward contract, this strategy leads to a profit of
F - (S+U) erT at the expiration of the futures contract. As arbitragers exploit this opportunity, the
spot price will increase and the futures price will decrease until Equation (5) does not hold good.
Suppose next that

F < (S+U) erT

. Eq (6)

In case of investment assets such as gold and silver, many investors hold the commodity purely
for investment. When they observe the inequality in equation 6, they will find it profitable to
trade in the following manner:

I.

Sell the commodity, save the storage costs, and invest the proceeds at the risk free
interest rate.

II. Take a long position in a forward contract.

This would result in a profit at maturity of (S+U) erT F relative to the position that the investors
would have been in had they held the underlying commodity. As arbitragers exploit this
opportunity, the spot price will decrease and the futures price will increase until equation 6 does
not hold well. This means that for investment assets, equation 4 holds good. However, for
commodities like cotton or wheat that are held for consumption purpose, this argument cannot be
used. Individuals and companies who keep such a commodity in inventory, do so, because of its
consumption value not because of its value as an investment. They are reluctant to sell these
commodities and buy forward or futures contracts because these contracts cannot be consumed.
Therefore there is unlikely to be arbitrage when equation 6 holds good. In short, for a
consumption commodity therefore

F (S+U) erT

. Eq (7)

That is the futures price is less than or equal to the spot price plus the cost of carry.

CHAPTER 4

CLEARING, SETTLEMENT AND RISK

MANAGEMENT

Clearing and settlement

Most futures contracts do not lead to the actual physical delivery of the underlying
asset. The settlement is done by closing out open positions, physical delivery or cash settlement.
All these settlement functions are taken care of by an entity called clearing house or clearing
corporation. National Securities Clearing Corporation Limited (NSCCL) undertakes clearing of
trades executed on the NCDEX. The settlement guarantee fund is maintained and managed by
NCDEX.

1. Clearing
Clearing of trades that take place on an exchange happens through the
exchange clearing house. A clearing house is a system by which exchanges guarantee the faithful
compliance of all trade commitments undertaken on the trading floor or electronically over the
electronic trading systems. The main task of the clearing house is to keep track of all the
transactions that take place during a day so that the net position of each of its members can be
calculated. It guarantees the performance of the parties to each transaction.
Typically it is responsible for the following:
Effecting timely settlement
Trade registration and follow up.
Control of the evolution of open interest.
Financial clearing of the payment flow.
Physical settlement (by delivery) or financial settlement (by price
difference) of contracts.
Administration of financial guarantees demanded by the participants.
The clearing house has a number of members, who are mostly financial institutions responsible
for the clearing and settlement of commodities traded on the exchange. The margin accounts for
the clearing house members are adjusted for gains and losses at the end of each day (in the same
way as the individual traders keep margin accounts with the broker). On the NCDEX, in the case
of clearing house members only the original margin is required (and not maintenance margin),
Every day the account balance for each contract must be maintained at an amount equal to the
original margin times the number of contracts outstanding. Thus depending on a day's
transactions and price movement, the members either need to add funds or can withdraw funds
from their margin accounts at the end of the day. The brokers who are not the clearing members

need to maintain a margin account with the clearing house member through whom they trade in
the clearing house.
1.1

Clearing banks: NCDEX has designated clearing banks

Through whom funds to be paid and / or to be received must be settled. Every clearing member
is required to maintain and operate a clearing account with any one of the designated clearing
bank branches. The clearing account is to be used exclusively for clearing operations i.e., for
settling funds and other obligations to NCDEX including payments of margins and penal
charges. A clearing member can deposit funds into this account, but can withdraw funds from
this account only in his self-name. A clearing member having funds obligation to pay is required
to have clear balance in his clearing account on or before the stipulated pay in day and the
stipulated time. Clearing members must authorize their clearing bank to access their clearing
account for debiting and crediting their accounts as per the instructions of NCDEX, reporting of
balances and other operations as may be required by NCDEX from time to time. The clearing
bank will debit/ credit the clearing account of clearing members as per instructions received from
NCDEX. The following banks have been designated as clearing banks. ICICI Bank Limited,
Canarabank, UTI Bank Limited and HDFC Bank ltd
1.2

Depository participants: Every clearing member is required

To maintain and operate a CM pool account with any one of the empanelled depository
participants. The CM pool account is to be used exclusively for clearing operations i.e., for
effecting and receiving deliveries from NCDEX.

2. Settlement
Futures contracts have two types of settlements,
The MTM settlement which happens on a continuous basis at the
end of each day

 And the final settlement which happens on the last trading day of
the futures contract.
On the NCDEX, daily MTM settlement and final MTM settlement in respect of admitted deals in
futures contracts are cash settled by debiting/ crediting the clearing accounts of CMs with the
respective clearing bank. All positions of a CM, either brought forward created during the day or
closed out during the day, are marked to market at the daily settlement price or the final
settlement price at the close of trading hours on a day.

Daily settlement price: Daily settlement price is the consensus closing price as arrived
after closing session of the relevant futures contract for the trading day. However, in the
absence of trading for a contract during closing session, daily settlement price is
computed as per the methods prescribed by the exchange from time to time.

Final settlement price: Final settlement price is the closing price of the underlying
commodity on the last trading day of the futures contract. All open positions in a futures
contract cease to exist after its expiration day.

2.1

Settlement Methods: Settlement of futures contracts on the

NCDEX can be done in three ways. By physical delivery of the underlying asset, by closing out
open positions and by cash settlement. We shall look at each of these in some detail. On the
NCDEX all contracts settling in cash are settled on the following day after the contract expiry
date. All contracts materialising into deliveries are settled in a period 2.7 days after expiry. The
exact settlement day for each commodity is specified by the exchange.

When a contract comes to settlement, the exchange provides alternatives like

delivery place, month and quality specifications. Trading period, delivery date etc. are all defined
as per the settlement calendar. A member is bound to provide delivery information. If he fails to
give information, it is closed out with penalty as decided by the exchange. A member can choose
an alternative mode of settlement by providing counter party clearing member and constituent.
The exchange is however not responsible for, nor guarantees settlement of such deals. The
settlement price is calculated and notified by the exchange. The delivery place is very important
for commodities with significant transportation costs. The exchange also specifies the accurate
period (date and time) during which the delivery can be made.

Closing out by offsetting positions

Most of the contracts are settled by closing out open positions. In closing out,
the opposite transaction is effected to close out the original futures position. A buy contract is
closed out by a sale and a sale contract is closed out by a buy. For example, an investor who took
a long position in two gold futures contracts on the January 30, 2009 at 14402 can close his
position by selling two gold futures contracts on February 27, 2004 at Rs.15445. In this case,
over the period of holding the position, he has gained an amount of Rs.1043 per unit. This loss
would have been debited from his margin account over the holding period by way of MTM at the
end of each day, and finally at the price that he closes his position, that is Rs. 15445 in this case.

Cash settlement

Contracts held till the last day of trading can be cash settled. When a contract is
settled in cash, it is marked to the market at the end of the last trading day and all positions are
declared closed. The settlement price on the last trading day is set equal to the closing spot price
of the underlying asset ensuring the convergence of future prices and the spot prices. For
example an investor took a short position in five long staple cotton futures contracts on
December 15 at Rs.6950. On 20th February, the last trading day of the contract, the spot price of
long staple cotton is Rs.6725. This is the settlement price for his contract. As a holder of a short
position on cotton, he does not have to actually deliver the underlying cotton, but simply takes
away the profit of Rs.225 per trading unit of cotton in the form of cash.

Risk management
NCDEX has developed a comprehensive risk containment mechanism for its commodity
futures market. The salient features of risk containment mechanism are:
The financial reliability of the members is the key to risk management.
Therefore, the requirements for membership in terms of capital
adequacy (net worth, security deposits) are quite stringent.
NCDEX charges an open initial margin for all the open positions of a
member. It specifies the initial margin requirements for each futures
contract on a daily basis. It also follows value-at-risk (VAR) based
margining through SPAN. The PCMs and TCMs in turn collect the
initial margin from the TCMs and their clients respectively.
The open positions of the members are marked to market based on
contract settlement price for each contract. The difference is settled in
cash on a T+1 basis.

 A member is alerted of his position to enable him to adjust his exposure

or bring in additional capital. Position violations result in withdrawal of
trading facility for all TCMs of a PCM in case of a violation by the
PCM.
A separate settlement guarantee fund for this segment has been created
out of the capital of members.

CHAPTER 5

FUNDAMENTAL AND TECHNICAL

ANALYSIS

Fundamental Analysis
DEMAND AND CONSUMPTION OF GOLD
Gold produced from different sources and demanded for consumption in form of
Jewellery, Industrial applications, Government & Central bank Investment and Private investor,
which has been worth US$ 38 billion on average over the past five years in world.

Total of world gold produced is mostly consumed by different sectors are Jewelers
80%, Industrial application 11.5% and rest of gold is used as investment purpose 8.5%.
Considering the situation in India, the demand for Gold consumption is far more ahead than its
availability through production, scrap or recycled gold. Where gold production in India is only
2tonnes, where demand is 18.7% of world gold consumption, which make India a leading
consumer of gold followed by Italy, Turkey, USA, China, Japan. According to Countries wise
demand, the following graph shows the demand in each country. Large part constitute by Jewelry
consumption with 85.56% during 2004 by Indian consumers, who seem to spend a
disproportionate percentage of their disposable income on gold and gold jewelry.
Gold fabrication for domestic and international market, also formed large part of
business in India with 527 tonnes of gold fabricated in India in 2004, making world largest

fabricator which is 60% more than its closest competitor Italy, Turkey, USA. But this Jeweler
Fabrication is unable to generate much revenue, as most of its consumed in India (479 tonnes).

18.70%

In dia
Italy
42.20%

11.10%

Turkey
US
China
Japan
Rest of world

8.50%

5.30%

7.30%

Consumption of Gold

6.90%

GOLD CONSUMPTION IN INDIA

India consumed around 18% of world Gold produced. Even though it only contribute 1.6% of
Global GDP.
Traditionally, Gold has been a good safety net for Indian households. However, the
sharp rise in gold imports over the last three years when the rupee has started appreciating,
inflation is relatively low, banking facilities are improving And economic can confidence has
picked up, is surprising say Market watchers.(Source: -Economic Times, Article, Forget
sensex, the Gold rush is on, July 18 05)
The demand is much that it consumed more than 1.5 times of US consumption of
gold. Increasing by nearly 60% in 2003-04, but during this fiscal Gold imports increased by
another 58%, with Import of gold and silver account around $11 billion consumption increased
by 88% during March05quarter.

Uses of Gold
1. Jewellery fabrication: The largest source of demand is the jewelry industry. In
new years, demand from the jewelry industry alone has exceeded Western mine production. This
shortfall has been bridged by supplies from reclaimed jewelry and other industrial scrap, as well
as the release of official sector reserves. Gold's workability, unique beauty, and universal appeal
make this rare precious metal the favorite of jewelers all over the world.
India is the world's foremost gold jewellery fabricator and consumer with fabricator
and consumption annually of over 600 tons according to GFMS. Measures of consumption and
fabrication are made more difficult because Indian jewellery often involves the re-making by
goldsmiths of old family ornaments into lighter or fashionable designs and the amount of gold
thus recycled is impossible to gauge. Estimates for this recycled jewellery vary between 80 tons
and 300 tons a year. GFMS estimates are that official gold bullion imports in 2001 were 654
tons. Exports have increased dramatically since 1996, and in 2001 stood at over 60 tons. The US

accounted for about one third of total official exports. Manufacturers located in Special Export
Zones can import gold tax-free through various registered banks under an Export Replenishment
scheme.

2. Industrial applications: Besides jewelry, gold has many applications in a variety

of industries including aerospace, medicine, electronics and dentistry. The electronics
industry needs gold for the manufacture of computers, telephones, televisions, and other
equipment. Gold's unique properties provide superior electrical conducting qualities and
corrosion resistance, which are required in the manufacture of sophisticated electronic
circuitry. In dentistry, gold alloys are popular because they are highly resistant to corrosion
and tarnish. For this reason gold alloys are used for crowns, bridges, gold inlays, and partial
debenture.
3. Governments and central banks: The third source of gold demand is governments
and central banks that buy gold to increase their official reserves. Central banks holds 28,225.4
tons, the holdings of Reserve Bank of India are only a modest 397.5 tons.
4. Private investors: Finally, there are private investors. Depending upon market
circumstances, the investment component of demand can vary substantially from year to year.

TECHNICAL ANALYSIS
Prices of the commodities in the commodity market fluctuate daily because of the continuous
buying and selling of the commodities. Prices of the commodity prices move in trends and
cycles and are never stable. An investor in the commodity market is interested in buying
commodities at a low price and sells them at a high price, so that he can get good return on his
investment. He therefore tries to analyze the movement of the share prices in market. There are

two approaches that we use for analyze the price of the commodities. One of these is the
fundamental analysis wherein the analyst tries to determine the true worth or intrinsic value of
the commodity when its market price is below its intrinsic value. The second approach to analyze
the commodity is technical analysis. It is an alternative approach to study the commodity price
behavior.
Dow Theory
Whatever is generally being accepted today as technical analysis has its roots in
the Dow theory. The theory is so called because it was formulated by Charles H. Dow who was
the editor of the wall street journal in U.S.A. Charles Dow formulated a hypothesis that the
commodity market does not move on a random basis but is influenced by three distinct cyclical
trends that guides its direction. According t this theory, the market has three movements and
these movements are simultaneous in nature. These movements are primary movements,
secondary reactions and minor movements.
The primary movements are a long range cycle that carries the entire market up or
down. This is the long term trend in the market. The secondary reactions act as a restraining
force on the primary movement. These are in the opposite direction to the primary movement
and last only for a short while. These are also known as correction. For example, when the
market is moving upwards continuously, this upward movement will be interrupted by
downward movements of short durations. These are called secondary reactions. The third
movement in the market is the minor movements which are the day to day fluctuations in the
market. The three movements of the market have been compared to the tides, the waves and the
ripples in the ocean.
According to Dow theory, the prices of the commodities can be identified by the
means of a line chart. In this chart, the closing prices of the commodities may be plotted against
the corresponding trading days. The below diagram shows a line chart of closing prices of the

commodity in the market, The primary trend is said to have three phases in it, each of which be
interrupted by a counter move or secondary reaction which would retrace about 33 66 % of the
earlier rise or fall.

Primary trend and secondary reactions

Bullish Trend
During a bull market (upward moving market), in the first phase the prices
would advance with the revival of confidence in the future of business. The future prospects of
business in general would be perceived to be promising. This would prompt the investors to buy
the commodities. During the second phase, prices would advance due to inflation and
speculation. Thus during the bull market the line chart would exhibit the formation of three
peaks. Each peak would be followed by a bottom formed by the secondary reaction. According
to Dow theory, the formation of higher bottoms and higher tops indicates a bullish trend.

Three Phases of bull market

Bearish Trend
The bear market is also characterized by three phases. In the first phase the
prices begin to fall due to abandonment of hopes. Investors begin to sell their commodities. In
the second phase, the prices fall due to increased selling pressure. In the final phase, prices fall
still further due to distress selling.

The theory also makes certain assumptions which have been referred to as the
hypotheses of the theory. The first hypothesis states that the primary trend cannot be
manipulated. It means that no single individual or institution or group of individuals and
institutions can exert influence on major trend of the market. The second hypothesis states that
averages discount everything. The third hypothesis states that the theory is not perfect. The
theory is concerned with the trend of market and has no forecasting value as regards the duration
or the likely price targets for the peak or bottom of the bull and bear markets.

Three Phases of a bear market

BASIC PRINCIPLES OF TECHNICAL ANALYSIS

The basic principles on which analysis is based are as follows:
1. The market value of the commodity is related to demand and supply factors operating
in the market.
2. There are both rational and irrational factors which surrounded the supply and demand
factors of a security.
3. Commodity prices behave in a manner that their movement is continuous in a
particular direction for some length of time.
4. Trends in a commodity prices have been seen to change when there is a shift in the
demand and supply factors.
5. The shift in demand and supply can be detected through charts prepared specifically to
show market action.

Line Chart

It is the simplest price chart. In this chart the closing prices of the share are plotted
on the XY graph on a day to day basis. The closing price of each day would be represented by a
point on the XY graph. All these points would be concerned by straight line which would
indicate the trend of the market. A line chart is illustrated below.

Line chart of closing prices

Bar Chart
It is perhaps the most popular chart used by technical analysts. In this chart the highest price and
the lowest price and the closing price of each day are plotted on a day to day basis. A bar is
formed by joining the highest price and the lowest price of a particular day by a vertical line. The
top of the bar represents the highest price and the bottom of the bar represents the lower price
and the small horizontal hash on the right of the bar is used to represents the closing price of the
day. Sometimes the opening price of the day is marked as a hash on left side of the bar. This can
be explained by taking 10 days silver, Gold & Crude oil prices.

11 Days Highest, Lowest and Closing prices of Silver

Highest Price
18358
18432
18208
18193
17990

Lowest Price
17204
18000
17953
17975
16941

Closing Price
18200
18129
18062
18014
17060

17345
17203
17200
17116
17778
17380

16837
16884
16900
16500
16556
17001

17124
17062
17061
16770
17422
17203

Bar Chart

10Days Highest, Lowest and closing prices of Gold

Highest Price

Lowest Price

Closing Price

12030

11779

11903

11990

11780

11885

12100

11924

11997

12200

12080

12141

12820

12225

12797

13155

12830

12941

13226

12785

13105

13288

13004

13145

13192

13000

13051

13179

12985

13125

Bar Chart

10Days Highest, Lowest and closing Prices of Crude oil

Highest Prices

Lowest Prices

Closing prices

2485

2446

2474

2555

2448

2515

2582

2480

2507

2559

2438

2461

2559

2475

2496

2519

2482

2484

2470

2340

2360

2501

2300

2360

2374

2291

2348

2410

2289

2317

Japanese Candlestick Charts

The Japanese candlestick chart shows the highest price, the lowest price, the
opening price and the closing price of the commodities on day to day basis. The highest price
and the lowest price of a day are joining by a vertical bar. There are mainly three types of
candlesticks, like the white, the black and the doji or neutral candlestick. A white candlestick is
used to represents a situation where the closing price of the day is higher than the opening price.
A Black candlestick is used to represents a situation where the closing price of the day is lower
than the opening price. A White candlestick indicates a bullish trend while a black candlestick
indicates a bearish trend. A doji candlestick is the one where the opening price and the closing
price of the day are the same. This can be expressed below by taking prices of silver, Gold &
Crude oil i.e., (opening, closing, high, low)
19Days Prices of Silver

Open
21725
23075
23481
23100
23625
23400
23555
22950
22664
21950
21954
22279
22526
21976
22051

High
23225
23634
23703
23806
23876
23885
23850
23196
22775
22600
22480
22838
22526
23444
22488

Low
21000
23000
22800
22933
22987
23100
22621
22354
21780
21803
21954
21916
21583
21344
22050

Close
23052
23422
22890
23755
23625
23810
22930
22936
21861
22189
22170
22640
21922
21976
22424

Japanese candlesticks

10Days Prices of Crude oil

Opening Price

Highest Prices

Lowest Prices

Closing Prices

2446

2485

2426

2474

2460

2555

2448

2515

2568

2582

2480

2507

2491

2559

2438

2461

2500

2559

2475

2496

2519

2519

2482

2484

2460

2470

2340

2360

2354

2501

2300

2360

2374

2374

2291

2348

2289

2410

2219

2317

10Days Prices of Gold

Opening Price

Highest Prices

Lowest Prices

Closing Prices

11880

11980

11779

11880

11890

11890

11880

11885

11925

12100

11924

11997

12127

12200

12080

12141

12437

12820

12225

12797

12955

12955

12930

12941

12868

13226

12785

13105

13102

13288

13004

13145

13192

13192

13000

13051

13055

13179

12985

13125

CHART PATTERNS:
When the price bar charts of several days are drawn close together, certain
patterns emerge. These patterns are used by technical analysts to identify trend reversal and
predict the future movement of prices. The chart patterns may be classified as support and
resistance patterns, reversal patterns.
1. Support and resistance patterns:
Support and resistance are the price levels at which the downtrend or
uptrend in price movements is reversed. Support occurs when price is falling but bounces back or

reverses direction every time it reaches a particular level. When all these low points are
connected by a horizontal line, it forms the support line. In other words, support level is the price
level at which sufficient buying pressure is exerted to stop the fall in prices.
Resistance occurs when the commodity price moves upwards. The price may fall
back every time it reaches a particular level. A horizontal line joining these tops forms the
resistance level. Thus, resistance level is the price level where sufficient selling pressure is
exerted to halt the ongoing rising in the price of a share.
If the scrip were to break the support level and move downwards it has bearish
implications signaling the possibility of a future fall in prices. Similarly, if the scrip were to
penetrate the resistance level it would be indicative of a bullish trend or a future rise in prices.

45Days Highest, Lowest and Closing Prices of Gold

Highest price

Lowest Price

Closing price

12088

12012

12050

12411

12200

12312

12383

12281

12332

12200

11962

12141

12820

12225

12797

12955

12930

12941

13226

12785

13105

13288

13004

13145

13192

13000

13051

13179

12985

13125

13199

13157

13172

13134

12640

12720

12727

12467

12636

12640

12451

12507

12600

12375

12403

12421

11981

12104

12193

12110

12134

12487

12175

12326

12430

12221

12385

12798

12374

12752

12973

12660

12845

12915

12690

12839

12851

12820

12830

13021

12800

12913

12974

12863

12960

13288

12968

13196

13276

12835

12960

12919

12671

12748

12797

12737

12757

13118

12816

13047

13235

13016

13084

13205

12907

13111

13500

13023

13357

13447

13380

13417

13825

13609

13660

13677

13392

13462

13690

13375

13646

13800

13670

13763

13730

13515

13580

13590

13552

13572

13582

13216

13351

13450

13116

13394

Support and resistance levels

\
2. Reversal patterns:
The trends reverse direction after a period of time. These reversal can be
identified with the help of certain chart formations that typically occur during these trend
revaesals. Thus reversal patterns are chart formations that trend to signal a change in direction of
the earlier trend.
Head and shoulder Formation: The most popular reversal pattern is Head and Shoulder
formation which usually occurs at the end of a long uptrend. This formation resembles the head
and two shoulders of a man and hence the name head and shoulder formation.
The first hump known as the left shoulder is formed when the prices reach the top
under a strong buying impulse. Then trading volume becomes less and there is a short downward
swing. This is followed by another high volume advance which takes the price to a higher top
known as the head. This is followed by another reaction on less volume which takes the price
down to a bottom near to the earlier downswing. A third rally now occurs taking the price to a
height the head but comparable to the left shoulder. This rally results in the formation of the right
shoulder. A horizontal line joining the bottoms of this formation is known as the neckline. This
head and shoulder formation usually occurs at the end of the bull phase and is indicative of a
reversal of trend. After breaking the neckline the price is expected to decline sharply.

Head and shoulder formation

Highest, Lowest and closing prices of Silver

Highest prices
16834
16987
17380
17649
17790
17572
17688
17690
17320
17200
17290
17118
17458
17649
17790
17572
17890
18095
17950
17901
18737
18500
18729
17963
17990
17844
17690
17580
17550
17649
17790
17672
17890
17410
17508
17320
17200
17190
17118
17158

Lowest Prices
16800
16556
17001
17238
17471
17211
17234
17548
17100
16803
17215
16800
16653
17238
17471
17211
17509
17700
17378
17721
18002
17975
18113
17987
17990
17740
17500
17480
17440
17238
17471
17211
17509
17410
17246
17100
16803
17050
16800
16653

Closing prices
16825
16898
17203
17536
17612
17465
17600
17610
17210
17010
17229
16915
16998
17536
17612
17465
17763
17886
17721
17792
18372
18329
18663
17580
17825
17773
17600
17543
17490
17536
17612
17465
17763
17410
17403
17210
17010
17110
16815
16998

MATHEMATICAL INDICATORS
Commodity prices do not rise or fall in a straight line. The movements are
unpredictable. This makes the investors difficult for the analyst to measure the underlying trend.
We can use the mathematical tool of moving averages to smoothen the unpredictable movements
of the commodity prices and highlight the underlying trend.
Moving Averages: moving averages are mathematical indicators of underlying trend of
price movement. There are two types of moving averages (MA) are commonly used by
the analyst.
1. Simple Moving Average.
2. Exponential moving average.
The closing prices of the shares are generally used for the calculation of moving averages.
I.

Simple moving average: An average is the sum of prices of a

Commodity for a specified number of days divided by the number of days, in a simple moving
average, a set of averages are calculated for a specified number of days, each average being
calculated by including a new price and excluding an old price.
In the below table the first total of 67022 in column 3 is obtained by adding the prices
of the first five days, i.e. (13611+13124+13124+13433+13730). The next Total of 67448 in
column 3 is obtained by adding 6th day and deleting first day price from the first total i.e.
(67022+14037-13611) this process is continued. The moving average in column 4 is obtained by
dividing the total figure in column 3 by the number of days i.e. 5.
Calculation of gold price Five days Simple Moving Average
Days Close Prices(Rs) Total prices of 5 Days 5 Days Moving Avg(MA)
1
13611
2
13124
3
13124
4
13433
-

5
6
7
8
9
10
11
12
13
14
15
16
17
18
19
20
21
22
23
24
25
26
27
28
29
30
31
32
33
34
35

13730
14037
14037
14283
14283
13140
13145
13405
13247
12742
12742
12742
12600
12277
11976
12050
12099
11940
12050
12312
12332
11962
11962
11962
11603
11841
11841
11841
11841
11753
11766

II.

67022
67448
68361
69520
70370
69780
68888
68256
67220
65679
65281
64878
64073
63103
62337
61645
61002
60342
60115
60451
60733
60596
60618
60530
59821
59330
59209
59088
58967
59117
59042

13404.4
13489.6
13672.2
13904
14074
13956
13777.6
13651.2
13444
13135.8
13056.2
12975.6
12814.6
12620.6
12467.4
12329
12200.4
12068.4
12023
12090.2
12146.6
12119.2
12123.6
12106
11964.2
11866
11841.8
11817.6
11793.4
11823.4
11808.4

Exponential Moving Average(EMA): It is calculated by using the

Following formula: EMA = (Current closing price Previous EMA) Factor + Previous EMA
Where

Factor = 2/n+1 and n = number of days for which the average is to be calculated.
Calculation of 30 days gold price of Five Day EMA

Days

Closing price

EMA

13611

13611

2
3
4
5
6
7
8
9
10
11
12
13
14
15
16
17
18
19
20
21
22
23
24
25
26
27
28
29
30

13124
13124
13433
13730
14037
14037
14283
14283
13140
13145
13405
13247
12742
12742
12742
12600
12277
11976
12050
12099
11940
12050
12312
12332
11962
11962
11962
11603
11841

13450.29
13342.61
13372.44
13490.44
13670.8
13791.65
13953.79
14062.43
13758.03
13555.73
13505.99
13420.52
13196.61
13046.59
12946.07
12831.87
12648.76
12426.75
12302.42
12235.29
12137.85
12108.86
12175.89
12227.41
12139.82
12081.14
12041.83
11897.01
11878.53

Factor = 2/ n+1 = 2/ 5+1 = 2/6 = 0.33

The EMA for the first day is taken as the closing price of that day itself. The EMA for the second
day is calculated as
EMA = (closing price Previous EMA) Factor + Previous EMA
= (13124 13611) 0.33 + 13611 = 13450.29
EMA = (13124 13450.29) 0.33 + 13450.29 = 13342.61
If we are calculating the five day exponential moving average, the correct five day EMA will be
available from the sixth day onwards. A moving average represents the underlying trend in
commodity price movement. The period of the average indicates the type of trend being

identified. For example, Five day or Ten day average would represent the short term trend; a 50
day average would indicate the medium term trend and a 200 day average indicates the long term
trend.
The moving averages are plotted on the price charts. The curved line joining these moving
averages represent the trend line. When the price of the commodity intersects and moves below
or above this trendline, it may be taken as the first sign of trend reversal. Sometimes, two moving
averages one short-term and the other long term are used in combination. In this case, trend
reversal is indicated by the intersection of the two moving averages.
.

Oscillators:
Oscillators are the mathematical indicators calculated with the help of the closing
price data. They help to identify overbought and oversold conditions and also the possibility of
trend reversals. These indicators are called oscillators because they move across a reference
point.
Rate of change Indicators (ROC): It is a very popular oscillator which measures the rate of
change of current price as compared to the price a certain number of days or weeks back. To
calculate a 7 day rate of change, each days price is divided by the price which prevailed 7 days
ago and then 1 is subtracted from this price ratios
ROC = (Current price / Price n period ago) 1
Lets take an example of 30 days Gold price.

Calculation of 30 days gold price of 7 day ROC

Days

Closing Price

Closing Price 7 Days ago

Price Ratio

ROC = ratio - 1

13611

13124

13124

13433

13730

14037

14037

14283

13611

0.049371832

14283

13124

1.04937183
2
1.08831149

10

13140

13124

0.001219141

11

13145

13433

12

13405

13730

13

13247

14037

14

12742

14037

1.00121914
1
0.97856026
2
0.97632920
6
0.94372016
8
0.90774382

15

12742

14283

16

12742

14283

17

12600

13140

18

12277

13145

19

11976

13405

20

12050

13247

21

12099

12742

22

11940

12742

23

12050

12742

24

12312

12600

25

12332

12277

26

11962

11976

27

11962

12050

28

11962

12099

29

11603

11940

30

11841

12050

0.08831149

-0.021439738
-0.023670794
-0.056279832
-0.09225618

0.89210950
1
0.89210950
1
0.95890411

-0.107890499

0.93396728
8
0.89339798
6
0.90963991
8
0.94953696
4
0.93705854
7
0.94569141
4
0.97714285
7
1.00447992
2
0.99883099
5
0.99269709
5
0.98867675

-0.066032712

0.97177554
4
0.98265560
2

-0.028224456

-0.107890499
-0.04109589

-0.106602014
-0.090360082
-0.050463036
-0.062941453
-0.054308586
-0.022857143
0.004479922
-0.001169005
-0.007302905
-0.01132325

-0.017344398

The ROC values may be positive, Negative and also be zero. An ROC chart is shown below
where the X axis represents the time and the Y axis represents the values of the ROC. The
ROC values oscillate across the zero line. When the ROC line is above the zero line, the price is
rising and when it below the zero line, the price is falling.
Ideally, one should buy a commodity that is oversold and sell a commodity that is
overbought. In the ROC chart, the overbought zone is above the zero line and the oversold zone
is below the zero line. Many analysts use the zero line for identifying buying and selling
opportunities. Upside crossing (from below to above the zero line) indicates a buying
opportunity, while a downside crossing (from above to below the zero line) indicates a selling
opportunity.
The ROC has to be used along with the price chart. The buying and selling signals
indicated by the ROC should also be confirmed by the price chart.

MARKET INDICATORS:
Technical analysis focuses its attention not only on individual commodity price behaviour, but
also on the general trend of market, Indicators used by technical analysts to study the trend of the
market as a whole are known as market indicators.
Technical Analysis Vs Fundamental Analysis: Fundamental analysis tries to estimate the
intrinsic value of a commodity by evaluating the fundamental factors affecting the economy,
industry and company. This is a tedios process and takes a rather long time to complete the
process.
Thecnical analysis studies the price and volume movements in the market and by careful
examining the pattern of these movements, the future price of the commodity is predicted. Since

the whole process involves much less timeand data analysis, compared to fundamental analysis,
it facilitates timely decision.
Fundamental analysis helps in identifying undervalued or overvalued securities. But
technical analysis helps in identifying the best timing of an investment, i.e. the best time to buy
or sell a security identified by fundamental analysis as undervalued or overvalued. Thus,
technical analysis may be used as a supplement to fundamental analysis rather thanas a substitute
to it. The two approaches, however, differ in terms of their databases and tools of analysis.
Fudamental analysis and technical analysis are two alternative approaches to predicting stock
pricebehaviour. Neither of them is perfect nor complete by itself.
Technical analysis has several limitations. It is not an accurate method of analysis. It is
offen difficult to identify the patterns underlying commodity price movements. Moreover, it is
not easy to interpret the meaning of patterns and their likely impact on future price movements.

REFERENCES
Books:

Security Analysis And Portfolio Management

- S.kevin

E Books:

Ncfm module for commodity market

COMDEX Educational series

Investors Educational series

Nair C.K.G. (2004): Commodity Futures Markets in India: Ready for Take
Off? www.nseindia.com

Websites:

www.geojit.com

www.bseindia.com

- Angel commodities

www.mcx.com

www.kitco.com

www.ncdex.com