The agricultural commodity futures market in India is constantly evolving due to favorable government policies and continuous reforms since 2002. An important function of the futures market is to aid in efficient price discovery. However, heightened volatility, induced by speculation has arguably distorted prices. This study aims at examining the gaps in the functioning of agricultural commodity futures market by using Johansen’s Cointegration, Granger Causality and Johansen’s Vector Error Correction Model (VECM). The results indicate oscillating leadership in price discovery between futures and spot markets depending upon the nature of the commodity, time to maturity of the contracts and liquidity in the market. The findings of the paper underscore the need for active intervention by the regulators.

In recent years, there has been a considerable increase in overall turnover across the three major national commodity exchanges, from 34,84,485 cr in 2006 to 94,94,725 cr in 2010 (Government of India, 2011). The balancing between price discovery and issues of speculation is a major challenge for policy makers, particularly in the emerging markets, so as to ensure fair market conditions. The anomalies in price discovery have given rise to ambiguous prices for farmers and undue advantages to arbitragers and speculators (Thomas, 2003). There is thus an ongoing debate: high speculation leading to volatility in prices on one side and rewarding farmers with better price discovery on the other. This paper aims to evaluate the efficiency of agricultural commodity futures markets in India. The issue assumes significance as the academia has confined itself largely to the developed markets to evaluate the performance of futures market. The study uses models of financial econometrics to identify the markets where price discovery occurs for a range of commodities.

Literature Review
Literature on the relationship between commodity futures and spot markets varies with respect to the developed and developing countries. Internationally, the futures market is an unbiased estimator of spot prices, benefitting farmers in crop decisions and profitability. Any intervention by the regulator is only detrimental to spot prices, observes Cox (1976). The studies in India differ in findings. Singh (2001) concludes that the efficiency is not a standard characteristic of futures market and it varies with respect to maturity period of the contracts. Thus the ‘Maturity Effect’ plays a key role in determining the performance of futures markets. Thomas (2003) studies the Indian castor seed market and finds that the castor futures market leads castor spot market in factoring information in advance, except in India’s harvesting season of March. Verma and Vijaya (2010) prove that pepper and wheat markets show an increase in volatility with decrease in maturity period. Fry et al. (2011) use estimates such as Vector Auto-Regression (VAR) and Granger Causality Test to show that the direction of causality between futures and spot market is not uniform across commodities.

Applied Finance Journal, Performance Evaluation, Agricultural, Commodity, Market in India, Johansen’s Cointegration, Granger Causality, Vector Error Correction Model (VECM), Vector Auto-Regression (VAR) and Granger Causality.