nalco project preparation

8/6/2019 Nalco Project Preparation

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I, Rajeev Kumar Swain, a student of KIIT SCHOOL OF MANAGEMENT, PUNE bearing

registration No. 0701PUN038 do hereby declare that, this project report entitled BRIEF

STUDY OF THE COMMODITY MARKET AND INDIAN ALUMINIUM INDUSTRY. and

submitted for partial fulfillment of the requirement of the award of the degree leading to

MASTER BUSINESS ADMINISTRATION ( M.B.A ) from KIIT, is my original work.

The contents of this report are original according to the best of my knowledge and

belief. This project report has neither been submitted to any other university nor shall be

published anywhere.

Rajeev kumar swain

3rdTrimester (M.B.A)

Regd. No. 0701PUN038

KIIT, PUNE


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This project was conducted as a part of the curriculum supported by KIIT UNIVERSITY,

BHUBANESWAR.

From the core of my heart a deep sense of emanate of gratitude towards KIIT SCHOOL OF

MANAGEMNT, PUNE for providing me an opportunity to enter into NALCO as a trainee in the

area of finance.

I extend my sincere gratitude to our honorable Dean, Mr. Pintoo Shome for his best wishes towards

this project.

I am grateful to Dr. L . K. Tripathy, faculty member, and KIIT for encouraging and standing by me

to make it possible on my part to conduct research on the topic that I always wanted to work on.

Thank you sir, for being and mentor and helping me to make this dream of mine come true.

I am very much thankful to Mr. ,senior manager, Marketing, Corporate Office,

NALCO for guiding me in a humble way and helping in providing required information needed for

the project.

I woe a lot to all staff and associate of NALCO and KIIT who have kindly supported me in

completing the project. This project could not have been completed without the help of my family

and friends. I should like to thank them for their support and encouragement.

DATE: RAJEEV SWAINPLACE:


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Theories provide the firm base for practice. Theories alone do not give perfection to

any discipline, theories, when put to practice makes any discipline complete. Practice is key

perfection and success.

Practical training in academics has been historically associated with natural sciences.

But the modern academic curriculum found this important in the field of social sciences as

well. There fore, it has been made essential part of the curriculum of a few courses.

Not only that the inclusion of practical session in social sciences is associated wit growth of

modern educational system, but also the growth of modern academics brought with it the

concept of professional courses viz MBA, engineering, MCA etc. No one can ever think ofdeveloping true professionals without giving them the exposure of the practical aspects of

their studies. Therefore in such courses, the practical training has been made essential. It is

made sure that students must be given training in the actual working environment, thus

giving them the exposure to the actual work requirements.

I, following this practice joined NALCO. To undergo my summer training I was

assigned a project on BRIEF STUDY OF THE COMMODITY MARKET AND INDIAN

ALUMINIUM INDUSTRY.

I have tried to analyze the prospects and the problem with detached and scientific outlook,

so that any biasness doesnt creeps in. To err is human and I am not exception any

suggestion will be welcomed.

RAJEEV KUMAR SWAIN


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INTRODUCTION


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INTRODUCTION

KNOWLEDGE IS THE POWER SUPREME. a man remains half filled without practical

experience though he/she has the mastery in theoretical knowledge. The scholar may get the

theoretical knowledge from the classroom, but it is quite difficult to get practical knowledge

unless until he/she has a direct exposure to an industry. In order to check the theoretical

knowledge the scholar here in this project has selected BRIEF STUDY OF THE

COMMODITY MARKET AND INDIAN ALUMINIUM INDUSTRY under NALCO for

having relevant knowledge regarding the key areas of PSU like NLACO.

Development of country obviously depends upon the development of industries. The

contribution of aluminum in development of national economy plays a great role through

rapid industrialization.

Thats why I have decided to do the project in aluminium industry and since NALCO is one

of the integrated aluminium companies and is one of the reputed organizations all over India.


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THE ORGANISATION

AN OVERVIEW: NALCO

HISTORY AND BACKGROUND:

The report on large deposit of high quality bauxite ore in India has placed Orissa in the word

of Bauxite map. These bauxite deposits cover million tones content low silica, which

decreases aluminium extraction cost. Taking into account all suitable locations and named

National Aluminium Company to exploit a part of its huge deposits. The prime minister Mrs.

Indira Gandhi laid the foundation of this project on march 21 st 1981 at Damanjodi district of

koraput, Orissa. Alumininium Pechiney (A.P) of finance, a world leader in the field provided

the technology and basic engineering for bauxite mining. Aluminium industry is very much

capital and power intensive both of which are scarce and expensive for country like India.

The challenge of establishing Aluminium Company for India never slipped back. Around

46.5% of it investment that is 2408 crores. Came from external sources. For 1119 crores

rupees Nalco signed agreement with 48 international banks in February 1981, th balance

rupees 1989 crores came through equity from the Govt. of India.

It is the first PSU which completed its projects in due time, within a short span of four

years.

FOUNDATION OF THE COMPANY 1981

STARTED COMMISSIONING 1985

COMMENCEMENT OF SALE OF METAL 1987

COMMENCEMENT OF ALUMINA EXPORT 1988

COMMENCEMENT OF METAL EXPORT 1988


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VARIOUS PRODUCTION AND SERVICE UNITS OF NALCO:

BAUXITE MINES:

Out of 89 % of 2.5 billion tones of bauxite ore are recoverable in India, of which 60 % is

located in Orissa. On Panchapatmali hills of koraput a fully mechanized open cast mine of

2.4 million type capacity is in operation since Novemeber 1985. present capacity 4.8 million

tonnes the specialty of this bauxite mine is that the bauxite ores are metallurgical and

contains low silica contents which allows extraction of aluminium at low cost.

Areas of deposit : 16 sq. k.m

Resources : 370 million tones in 3 blocks.

Life of deposits : over 100 yrs

Ore quality : alumina 45 %, silica 2 %

Crushing : 1x 900 thp role crusher.

Transport : 14.6 KM long single flight

Multi curve cable belt conveyor of 900 tph.

Certification : ISO 9002, ISO 14001

Bauxite ores are extracted from the open mines by drilling and blasting. The over burden of

loading is ripped a 700 hp dozer. The ore is transported to the crusher unit using 5.7m3 front

loaders, shovel and 32 tones dumpers. The transportation of bauxite ore to alumina refinery

was made easier and cost effective through a most sophisticated 14.6 km long single cable

belt conveyor of 900 tph to supply tested a quality bauxite ore and survey purpose computer

were extensively used.


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ALUMINA REFINERY:

To meet the demands of smelter plant was established in the district of koraput. The alumina

refinery was designed to supply 425000 tones of alumina to the smelter plant, angul and to

export 375000 tones of alumina to overseas market through Visakhapatnam Present capacity

is 1.575 million tones.

Atmospheric pressure disgestion process.

Energy efficient fluent claimers 2 x 1400 tpd.

Co-generation of 3 x 18.5 MV powers by use of backpressure turbine in steam

generation plant.

Certification : ISO 9002 and ISO 14001

SMELTER PLANT:

A giant mother of aluminium, the smelter plant is situated at Angul, 150 Km north of state

capital Bhubaneswar. The smelter plant a fully automated plant transforms alumina to

aluminium through the most advanced DC electrolysis process. The world class aluminium

A .P FRANCE provide the technology based on energy efficient sate of art technology ofsmelter and pollution control. A smelter of 218000-tpy capacity is in operation since 1987.

the present capacity is 3,60,000 tpy the layout and architecture departments of smelter plant

are very scientific. The communication and co-ordination among various departments of

smelter plant is really very excellent. The 220K.V.A switchyard is busy in supplying high

voltage uninterrupted electricity to portliness and other areas of the plant. There are three pot

lines having 240 pots each, in each pot aluminium is prepared by electrolysis process. To

meet the demand of cold water, pressure air and other utilities required by the plant, a utility

area is centrally located. Through a well- linked transport facility liquid aluminium comes

from pot line area to cast house. As per the required heat and specification of metal mix

aluminium is poured into different shapes.


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CAPTIVE POWER PLANT

The highly sophisticated NALCOs own power project is locate at Angul just 2 km away

from the smelter plant. Due to heavy power requirement of S & P, NALCO dedicated to

establish a power generation unit. Extensive availity of raw material and favorable

conditions cheered to start the cost effective own power project. The construction work of

720 MW capacity power plants started in 1987. the electricity generation through 6

generated turbines is producing 120MW each. The plants todays has 8 units 120 MW each.

The power plant is highly sophisticated; computer programmed and fully automated

executive plant and Indian power giant BHEL built its power units in turnkey basis.

The inputs for the power plant are coal and water. The requirement is met by Mahanadi Coal

Fields Ltd. From its bharatpur unit Talcher kept exclusively for Nalco. Clean water for the

project is drawn from Brahmani trough 7 Km run double circuit pipeline discharging 7200

cub mtr/hr. of water.

Microprocessor based burner management system for optimum thermal efficiency.

Computer control data acquisition system for online monitoring.

Automatic turbine runs up system.

Specially designed barrel type- high pressure turbine.

Electrostatic precipitators with advanced intelligent controlling.

Wet disposal of ash.

Certification : ISO 9002 and ISO 14001.

PORT FACILITY:

Being a major exporter of the country, NALCO has built a dedicated port facility in the

interior harbor of visakhapatnam port on Bay of Bengal to handle export of alumina. Beside,

aluminium is also exported from here in containers.

Mechanized storage facility of 3 x 25000 tones capacity.

Mechanized mobile ship loader of 2200 tph capacity.

Capacity to handle maximum ship size 35,000 dwt.


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CORPORATE & REGIONAL OFFICES:

NALCOs new built corporate enclave NALCO BHAWAN nayapali situated in the heart

of temple city Bhubaneswar. The fully air conditioned and computerized office created a

good work climate. The WAN connection makes the sharing of information more eaiser. All

the policymaking and palns are being formulated and the data of all administrative and

regional offices are being updated.

REGIONAL OFFICES

NALCO has been able to add to its efficiency through better customer care by strategically

locating its regional offices at Delhi, Kolkota, Mumbai, Chennai, Banglore, Visakhapatnam

and Pondichery.

In order to ensure fast and smooth delivery NALCO operates four stockyards in alliance with

NSIC and HSSIEC Ltd. At following locations.

1. Jaipur2. Faridabad

3. Baddi

4. Bhiwandi

5. silvassa

6. Chennai

7. Bangalore

8. Vizag9. Kolkata


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SWOT ANALYSIS

STRENGTH :

Low cost of manufacturing:

Nalco has its own captive power generation thus making it cheaper to produce power

constitute about 40% of the manufacturing cost. Availability of good quality bauxite

at a reasonable price, with smelter situated near Angul, lower labour costs make

NALCO one of the lowest cost manufacturer.

Availability of raw material:

India is the fifth largest reservoirs of bauxite in the world. Bauxite mining facility is

48,00,000 tonnes of bauxite per annum.

Crystal clear policy:

All customer are treated in the same manner. Due to transparency policy customer

have faith on NALCO. Dispatch policy is also standardized on favour is done to any

boby.

Personnel management:

Employee satisfaction among the staff and workers are high. Regular communication

meeting are held thus addressing employee grievances on the spot.

Sound technology base.


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freight charges by truck association are also causing trouble.

Competitors from substitute:

Substitute has always been threatening to aluminium consumption growth. In

electrical sector the main competitor is copper. But copper is costly and not suitable

for out door application due its corrosive nature.

In construction sector the main demand is wood. But environment consciousness has

made the Govt. ban the usage of wood in Govt. projects.

In the packing sector, plastic offer stiff competition for aluminium. But the abilty of

aluminium to remain non-reactive gives it a distinct advantage over plastic.

Polymer terephthalate, bottles, steels can, and glass bottles are threatening the

aluminium to remain non reactive to medicine & food.

Likely heavy load on railways & port due to growing industrialization in the wide

fluctuation in LME price and absence of mechanism in India.

High dependence on railways for transportation of materials.


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OBJECTIVE OF NALCO

To maximize capacity utilization.

To optimize operation effiency and productivity.

To maintain highest international standard of excellence in product quality, cost

effiency and customer service.

To provide a steady growth in business by technology up gradation, expansion and

diversification.

To have global presence and to earn foreign exchange.

To maintain leadership in domestic market.

To instill financial discipline at all levels for achieving cost and budgetary controls,

optimizing utilization of working capital and effective cash flow management.

To maximize return on investment.

To develop a strong R&D base and increase business development activities.

To promote a result oriented organizational ethos and work culture that empowers

employees and help realization of individuals and organizational goals.

To maximize internal customer satisfaction.

To participate in peripheral development of the area.


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COMPANY PROFILE


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PROFILE OF NALC0

BACKGROUND:

Conquest upon the sanction in November 1980 by Govt. of India to establish the Orissa

Aluminium Complex. National Aluminium Company ( NALCO ) was incorporated in 1981

as a Govt. Company to exploit the large deposit of bauxite in East coast hills of

Panchapatmali, Koraput. Aluminium Pecheney of France, a world leader in the field

provided the technology and basic enegineering for bauxite mining, Alumina Refinery and

Smelter. The project cost of Rs. 2048 Cr. Was partly financed by Rs1119 Cr. Equivalent of

Euro Dollar loans extended by consortium of expansion in 1998 the project cost is Rs.

7180.58 Cr. Now further expansion approved is Rs. 4091.51 Cr.

SEGMENTS:

The NALCO projects mostly located in backward districts of Orissa were completed on

schedule under difficult logistics of project management. Nalcos various production units,

their location and present installed capacities and further expansion sanctioned are as under.

The total project is Rs.11272.09 Cr. And out of this 2nd phase expansion cost of Rs.4091.51

Cr.

SEGMENT CAPACITY EXPANSION

CAPACITY

LOCATION

Bauxite Mines 48,00,000 tpy 15,00,000 tpy Panchapatmali,

koraput, Orissa

Alumina Refinery 15,75,000 tpy 5,25,000 tpy Damanjodi, koraput,

Orissa.

Smelter plant 3,45,000 tpy 1,15,000 tpy Angul, OrissaCaptive Power Plant 960 MW 240 MW Angul, Orissa

Port facilities 9,12,000 tpy (export of

Alumina) & 1,46,000

tpy (caustic soda lye

import)

Visakhapatnam,

Andra Pradesh

Rolled product unit 50,000 tpy Angul, orissa

TECHNICAL ASSOCIATES & CONSULTANTS :


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The giant aluminium complex of NALCO in orissa is the result of team efforts following

consulting organizations.

1. Aluminium pecheney, France: For basic Engineering and technology for Alumina &

Aluminium.

2. Engineers India Ltd, New Delhi: For mines and all projects monitoring consultant.

3. D.C.P.L Kolkota: Captive power plant.

4. H.I.P.L, New Delhi: Port facilities

5. RITES New Delhi: Rail facilities

MANPOWER:

The total manpower strength of the company as on july 2008 was 7,426. which

including 1,828 Executives, 892 Supervisors, 3561 skilled workers / highly skilled workers

and 1,145 unskilled / semi- skilled workers.

INDUSTRY RELATION / HRD / WORK CULTURE:

The collaborative approach on industrial relation front has kept the performance level

of the company high irrespective of the constraints on availability of required manpower and

inter-union rivalry in a multi-union scenario.The revision of the canteen subsidy reimbursement was done at bi-partite level at all

the units of the company and later registered with the statutory authority for legal sanction.

There have been no Man-days lost on account of industrial relation problem. However

the statewide agitation by political parties, trade unions against central Govt.s decision on

disinvestment / privatization have resulted in total Bandh. The total Man-days lost in this

year mainly on this account is about 0.38 % of the total Man-days available.

HRD subsystems like suggestion reward Scheme and Mentoring Schemes beingimplemented at various units of the company. A well-equipped HRD center of excellence is

in operation at corporate office. For structured Training and developing practical shill at

workplace, each unit has their HRD centers.

MARKETING:


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In the marketing front the performance of the company is excellent. It has achieved the

highest sales of 3,56,616 MT of metal during the year 2006-07 surpassing the previous

highest of 3,53,841 MT in 2005-06. similarly the sale of 2,63,494 MT of metal in the

domestic market surpassing the previous highest of 2,58,094 MT achieved in 2005-06.

FINANCE:

Increased production and sales performance on all fronts, the net profits for the year

after provision for taxes increased from Rs.1562 Crs. To Rs. 2,381 Crs. Highest ever gross

sales turnover of Rs.5940 Crs. Was achived surpassing the pervious best of Rs.4,889 Crs.

Achieved during 2005-06. The best foreign exchange earning is of _______ Crs.

The export earning in 2006-07 was Rs. _______ Crs., which was ____ % increase

over the previous year exports. The company registered all time record 27.39 % earning on

export during 2000-01. all these were the results of overall efficiency, cost reduction

methods, better management and impact of policy measures taken by Govt. On Production

and Financial front in 2006-07 all previous record have been surpassed.

AWARD AND RECOGNIZATION:NALCO has received following award in various fields:

1. The highest Export Award of CAPEXIL for 2005-06 for 19th time in

Succession.

2. Top Export Award EEPC (Eastern Region) for 4th time in succession.

3. The prestigious Quality Award of Indian Institute of metals (IIM) for the year

2003.

4. The prestigious Niryat Award for Excellence in Export for the year 2000-01and 2001-02, institutes by the Federation of Indian Export Organisations

(FIEO).

5. The Excellent Performance award in the national convention of quality circle

2003, held in December 4-7, 2003 at Madurai.


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STUDY OF THE COMMODITY MARKET


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A commodity is anything for which there is demand, but which is supplied without

qualitative differentiation across a market. In other words, copper is copper. Rice is rice.

Stereos, on the other hand, come in many varieties of quality. And, the better a stereo is, the

more it will cost. Whereas, the price of copper is universal, and fluctuates daily based on

global supply and demand.

One of the characteristics of a commodity good is that its price is determined as a function of

its market as a whole. Well-established physical commodities have actively traded spot and

derivative markets. Generally, these are basic resources and agricultural products such as

iron ore, crude oil, coal, ethanol, sugar, coffee beans, soybeans, aluminum, rice, wheat, gold

and silver.

Commoditization occurs as a goods or services market loses differentiation across its supply

base, often by the diffusion of the intellectual capital necessary to acquire or produce it

efficiently. As such, goods that formerly carried premium margins for market participants

have become commodities, such as generic pharmaceuticals and silicon chips.

Linguistically, the word commodity came into use in English in the 15th century, derived

from the French word "commodit", similar in meaning to "convenience" in terms of quality

of services. The Latin root meaning is commoditas, referring variously to the appropriate

measure of something; a fitting state, time or condition; a good quality; efficaciousness or

propriety; and advantage, or benefit. The German equivalent is die Ware, i.e. wares or goods

offered for sale. The French equivalent is "produit de base" or "matire premire" like

energy, goods, or industrial raw materials.

A commodity's value changes over time.


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Commodity trade

In the original and simplified sense, commodities were things of value, of uniform quality, that were

produced in large quantities by many different producers; the items from each different producer are

considered equivalent. It is the contract and this underlying standard that define the commodity, not

any quality inherent in the product.

Commodities exchanges include:

Brazilian Mercantile and Futures Exchange

Chicago Board of Trade

Chicago Mercantile Exchange

Intercontinental Exchange

Dalian Commodity Exchange

Kansas City Board of Trade

London Metal Exchange

Minneapolis Grain Exchange

Multi Commodity Exchange

National Food Exchange

New York Mercantile Exchange New York Board of Trade

Rosario Board of Trade

Winnipeg Commodity Exchange

Markets for trading commodities can be very efficient, particularly if the division into pools matches

demand segments. These markets will quickly respond to changes in supply and demand to find an

equilibrium price and quantity. In addition, investors can gain passive exposure to the commodity

markets through a commodity price index.


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Energy

CommodityMain

ExchangesTrading Symbol

Light, Sweet Crude NYMEX CL

Brent Crude ICE IB

Ethanol CBOTAC (Open Auction) ZE(Electronic)

Natural Gas NYMEX NG

Heating Oil NYMEX HO

Gulf Coast Gasoline NYMEX LR

RBOB Gasoline (reformulated gasoline blendstock foroxygen blending)

NYMEX RB

Propane NYMEX PN

Uranium NYMEX UX

Precious metals

Commodity Unit Currency Price (30th March 2008) Bourse

Gold troy ounce USD ($) $930.00 CBOT

Platinum troy ounce USD ($) $2025.00 NYMEX

Palladium troy ounce USD ($) $443.00 NYMEX

Silver troy ounce USD ($) $17.88 CBOT
http://en.wikipedia.org/wiki/Goldhttp://en.wikipedia.org/wiki/Ouncehttp://en.wikipedia.org/wiki/United_States_currencyhttp://en.wikipedia.org/wiki/Platinumhttp://en.wikipedia.org/wiki/Palladiumhttp://en.wikipedia.org/wiki/Silverhttp://en.wikipedia.org/wiki/Goldhttp://en.wikipedia.org/wiki/Ouncehttp://en.wikipedia.org/wiki/United_States_currencyhttp://en.wikipedia.org/wiki/Platinumhttp://en.wikipedia.org/wiki/Palladiumhttp://en.wikipedia.org/wiki/Silver


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Industrial metals

Commodity Unit CurrencyPrice

(2004)Price (2006) Bourse

Copper Metric Ton USD ($) $3,200 6,670

London Metal Exchange, New

York

Lead Metric Ton USD ($) $990 1,515 London Metal Exchange

Zinc Metric Ton USD ($) $1,226 4,110 London Metal Exchange

Tin Metric Ton USD ($) $7,665 9,675 London Metal Exchange

Aluminium Metric Ton USD ($) $1,947 2,595London Metal Exchange, NewYork

Aluminium alloy Metric Ton USD ($) ----------- 2,595 London Metal Exchange

Nickel Metric Ton USD ($) $15,190 30,050 London Metal Exchange

Aluminium alloy Metric Ton USD ($) 2,310 London Metal Exchange

Recycled steel Metric Ton USD ($) Rotterdam

Rare metals

The following metals are not, at present (2008), traded on any exchange, such as the London

Metal Exchange (LME), and, therefore, no spot or futures market, where producers,

consumers and traders can fix an official or settlement price exists for these metals. The only

price information that is available globally is published by, among others, the London Metal

Bulletin and is based on information from producers, consumers and traders. Germanium,

Cadmium, Cobalt, Chromium, Magnesium, Manganese, Molybdenum, Silicon, Rhodium,

Selenium, Titanium, Vanadium, Wolframite, Niobium, Lithium, Indium, Gallium, Tantalum,

Tellurium, and Beryllium.

Other Minerals and Materials

The following minerals and materials are not, at present (2008), traded on any exchange,

and, therefore, no spot or futures market where producers, consumers and traders can fix an
http://en.wikipedia.org/wiki/London_Metal_Exchangehttp://en.wikipedia.org/wiki/London_Metal_Exchange


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official or settlement price exists for these minerals. Generally the only price information

that is available globally is published privately by, among others, the London Metal Bulletin

and is based on information from producers, consumers and traders.

Asphalt, Aggregate, Arsenic, Borax, Boron, Gypsum, Asbestos, Chlorine, Fluoride, Cement,

Sulfuric Acid, Carbon Dioxide, Flourspar, Bromine, and Titanium Dioxide.

COMMODITY MARKETS
http://en.wikipedia.org/w/index.php?title=London_Metal_Bulletin&action=edit&redlink=1http://en.wikipedia.org/w/index.php?title=London_Metal_Bulletin&action=edit&redlink=1


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Commodity markets are markets where raw or primary products are exchanged. These raw

commodities are traded on regulated commodities exchanges, in which they are bought and

sold in standardized contracts.

This article focuses on the history and current debates regarding global commodity markets.

It covers physical product (food, metals, and electricity) markets but not the ways that

services, including those of governments, nor investment, nor debt, can be seen as a

commodity. Articles on reinsurance markets, stock markets, bond markets and currency

markets cover those concerns separately and in more depth. One focus of this article is the

relationship between simple commodity money and the more complex instruments offered in

the commodity markets.

History

The modern commodity markets have their roots in the trading of agricultural products.

While wheat and corn, cattle and pigs, were widely traded using standard instruments in the

19th century in the United States, other basic foodstuffs such as soybeans were only added

quite recently in most markets. For a commodity market to be established, there must be very

broad consensus on the variations in the product that make it acceptable for one purpose oranother.

The economic impact of the development of commodity markets is hard to over-estimate.

Through the 19th century "the exchanges became effective spokesmen for, and innovators

of, improvements in transportation, warehousing, and financing, which paved the way to

expanded interstate and international trade."


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Early history of commodity markets

Historically, dating from ancient Sumerian use of sheep or goats, or other peoples using pigs,rare seashells, or other items as commodity money, people have sought ways to standardize

and trade contracts in the delivery of such items, to render trade itself more smooth and

predictable.

Commodity money and commodity markets in a crude early form are believed to have

originated in Sumer where small baked clay tokens in the shape of sheep or goats were used

in trade. Sealed in clay vessels with a certain number of such tokens, with that number

written on the outside, they represented a promise to deliver that number. This made them a

form of commodity money - more than an "I.O.U." but less than a guarantee by a nation-state

or bank. However, they were also known to contain promises of time and date of delivery -

this made them like a modern futures contract. Regardless of the details, it was only possible

to verify the number of tokens inside by shaking the vessel or by breaking it, at which point

the number or terms written on the outside became subject to doubt. Eventually the tokens

disappeared, but the contracts remained on flat tablets. This represented the first system ofcommodity accounting.

However, the Commodity status of living things is always subject to doubt - it was hard to

validate the health or existence of sheep or goats. Excuses for non-delivery were not

unknown, and there are recovered Sumerian letters that complain of sickly goats, sheep that

had already been fleeced, etc.

If a seller's reputation was good, individual "backers" or "bankers" could decide to take the

risk of "clearing" a trade. The observation that trust is always required between market

participants later led to credit money. But until relatively modern times, communication and

credit were primitive.

Classical civilizations built complex global markets trading gold or silver for spices, cloth,

wood and weapons, most of which had standards of quality and timeliness. Considering the


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many hazards of climate, piracy, theft and abuse of military fiat by rulers of kingdoms along

the trade routes, it was a major focus of these civilizations to keep markets open and trading

in these scarce commodities. Reputation and clearing became central concerns, and the states

which could handle them most effectively became very powerful empires, trusted by many

peoples to manage and mediate trade and commerce.

Size of market

The trading of commodities consists of direct physical trading and derivatives trading. The

commodities markets have seen an upturn in the volume of trading in recent years. In the

five years up to 2007, the value of global physical exports of commodities increased by 17%

while the notional value outstanding of commodity OTC derivatives increased more than

500% and commodity derivative trading on exchanges more than 200%.

The notional value outstanding of banks OTC commodities derivatives contracts increased

27% in 2007 to $9.0 trillion. OTC trading accounts for the majority of trading in gold and

silver. Overall, precious metals accounted for 8% of OTC commodities derivatives trading in

2007, down from their 55% share a decade earlier as trading in energy derivatives rose.

Global physical and derivative trading of commodities on exchanges increased more than a

third in 2007 to reach 1,684 million contracts. Agricultural contracts trading grew by 32% in

2007, energy 29% and industrial metals by 30%. Precious metals trading grew by 3%, with

higher volume in New York being partially offset by declining volume in Tokyo. Over 40%

of commodities trading on exchanges was conducted on US exchanges and a quarter in

China. Trading on exchanges in China and India has gained in importance in recent years

due to their emergence as significant commodities consumers and producers.


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Investment Returns

This is a much-debated topic within academia. It is generally agreed that commodities have

an expected return of 5% in real terms which is based on the risk premium for 116 different

commodities weighted equally since 1888 (Source Report 219171-Wharton Business

School). It is common for investment professionals to mistakenly claim there is no risk

premium in commodites.

IMPORTANT TERMS IN COMMODITY MARKET:

Forward contracts

A forward contract is an agreement between two parties to exchange at some fixed future

date a given quantity of a commodity for a price defined today. The fixed price today is

known as the forward price.

Commodity and Futures contracts are based on whats termed "Forward" Contracts. Early on

these "forward" contracts (agreements to buy now, pay and deliver later) were used as a way

of getting products from producer to the consumer. These typically were only for food and

agricultural Products. Forward contracts have evolved and have been standardized into what

we know today as futures contracts. Although more complex today, early Forward

contracts for example, were used for rice in seventeenth century Japan. Modern "forward", or

futures agreements, began in Chicago in the 1840s, with the appearance of the railroads.

Chicago, being centrally located, emerged as the hub between Midwestern farmers and

producers and the east coast consumer population centers.

Hedging

"Hedging", a common (and sometimes mandatory) practice of farming cooperatives, insures

against a poor harvest by purchasing futures contracts in the same commodity. If the

cooperative has significantly less of its product to sell due to weather or insects, it makes up

for that loss with a profit on the markets, since the overall supply of the crop is short

everywhere that suffered the same conditions.


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Whole developing nations may be especially vulnerable, and even their currency tends to be

tied to the price of those particular commodity items until it manages to be a fully developed

nation. For example, one could see the nominally fiat money of Cuba as being tied to sugar

prices, since a lack of hard currency paying for sugar means less foreign goods per peso in

Cuba itself. In effect, Cuba needs a hedge against a drop in sugar prices, if it wishes to

maintain a stable quality of life for its citizens.

Delivery and condition guarantees

In addition, delivery day, method of settlement and delivery point must all be specified.

Typically, trading must end two (or more) business days prior to the delivery day, so that the

routing of the shipment (which for soybeans is 30,000 kilograms or 1,102 bushels) can be

finalized via ship or rail, and payment can be settled when the contract arrives at any

delivery point.

Standardization

U.S. soybean futures, for example, are of standard grade if they are "GMO or a mixture of

GMO and Non-GMO No. 2 yellow soybeans of Indiana, Ohio and Michigan origin produced

in the U.S.A. (Non-screened, stored in silo)," and of deliverable grade if they are "GMO or a

mixture of GMO and Non-GMO No. 2 yellow soybeans of Iowa, Illinois and Wisconsin

origin produced in the U.S.A. (Non-screened, stored in silo)." Note the distinction between

states, and the need to clearly mention their status as "GMO" ("Genetically Modified

Organism") which makes them unacceptable to most "organic" food buyers.

Similar specifications apply for cotton, orange juice, cocoa, sugar, wheat, corn, barley, pork

bellies, milk, feedstuffs, fruits, vegetables, other grains, other beans, hay, other livestock,

meats, poultry, eggs, or any other commodity which is so traded.

The concept of an interchangeable deliverable or guaranteed delivery is always to some

degree a fiction. Trade in commodities is like trade in any other physical product or service.

No magic of the commodity contract itself makes "units" of the product totally uniform nor

gets it to the delivery point safely and on time.


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Regulation of commodity markets

Cotton, kilowatt-hours of electricity, board feet of wood, long distance minutes, royalty

payments due on artists' works, and other products and services have been traded on markets

of varying scale, with varying degrees of success. One issue that presents major difficulty for

creators of such instruments is the liability accruing to the purchaser:

Unless the product or service can be guaranteed or insured to be free of liability based on

where it came from and how it got to market, e.g. kilowatts must come to market free from

legitimate claims for smog death from coal burning plants, wood must be free from claims

that it comes from protected forests, royalty payments must be free of claims of plagiarism or

piracy, it becomes impossible for sellers to guarantee a uniform delivery.

Generally, governments must provide a common regulatory or insurance standard and some

release of liability, or at least a backing of the insurers, before a commodity market can begin

trading. This is a major source of controversy in for instance the energy market, where

desirability of different kinds of power generation varies drastically. In some markets, e.g.

Toronto, Canada, surveys established that customers would pay 10-15% more for energy that

was not from coal or nuclear, but strictly from renewable sources such as wind.

Proliferation of contracts, terms, and derivatives

However, if there are two or more standards of risk or quality, as there seem to be for

electricity or soybeans, it is relatively easy to establish two different contracts to trade in the

more and less desirable deliverable separately. If the consumer acceptance and liability

problems can be solved, the product can be made interchangeable, and trading in such units

can begin.

Since the detailed concerns of industrial and consumer markets vary widely, so do the

contracts and "grades" tend to vary significantly from country to country? A proliferation of

contract units, terms, and futures contracts have evolved combined into an extremely

sophisticated range of financial instruments.


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These are more than one-to-one representations of units of a given type of commodity, and

represent more than simple futures contracts for future deliveries. These serve a variety of

purposes from simple gambling to price insurance.

The underlying of futures contracts are no longer restricted to commodities.

Oil and fiat

Building on the infrastructure and credit and settlement networks established for food and

precious metals, many such markets have proliferated drastically in the late 20th century. Oil

was the first form of energy so widely traded, and the fluctuations in the oil markets are of

particular political interest.

Some commodity market speculation is directly related to the stability of certain states, e.g.

during the Gulf War, speculation on the survival of the regime of Saddam Hussein in Iraq.

Similar political stability concerns have from time to time driven the price of oil. Some argue

that this is not so much a commodity market but more of an assassination market speculating

on the survival (or not) of Saddam or other leaders whose personal decisions may cause oil

supply to fluctuate by military action.

The oil market is, however, an exception. Most markets are not so tied to the politics of

volatile regions - even natural gas tends to be more stable, as it is not traded across oceans by

tanker as extensively.

Commodity markets and protectionism

Developing countries (democratic or not) have been moved to harden their currencies, acceptIMF rules, join the WTO, and submit to a broad regime of reforms that amount to a "hedge"

against being isolated. China's entry into the WTO signaled the end of truly isolated nations

entirely managing their own currency and affairs. The need for stable currency and

predictable clearing and rules-based handling of trade disputes, has led to a global trade

hegemony - many nations "hedging" on a global scale against each other's anticipated

"protectionism", were they to fail to join the WTO.


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There are signs, however, that this regime is far from perfect. U.S. trade sanctions against

Canadian softwood lumber (within NAFTA) and foreign steel (except for NAFTA partners

Canada and Mexico) in 2002 signaled a shift in policy towards a tougher regime perhaps

more driven by political concerns - jobs, industrial policy, even sustainable forestry and

logging practices.

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