These limitations, he explains, arise from three basic situations. 1. Most of the public sector agencies do not generally sell short in the spot market, except for very small quantities which can be covered by them in a few days' time.

2. Moreover, like all other economic activities, futures trading involve some costs. Since the profit margin in cotton is very thin, particularly in the case of public sector agencies, such additional cost may place extra burden on them. A cost benefit analysis will have to be carried out to see whether carrying inventory upto a certain level would be better, or hedging would be beneficial.

3. The other factor which inhibits hedging operations by public sector agencies is that they cannot speculate and may have to hedge only against their inventories. This means that these agencies can only sell futures and not buy them. This is because these agencies do not sell short.

Certain other limitations on participation in futures trading by public sector agencies arise form the fact that volumes and liquidity in futures segment of the market have not yet improved to the desired level. For instance:

1. Daily volumes so far on the futures market in India are very low. This is because all participants, particularly textile mills, have not started their activity in the futures market to the desired extent.

2. Moreover, speculators who are considered the backbone of futures trading, have not yet come out in sufficient numbers as futures trading has been resumed after a lapse of about 35 years. Hence, liquidity in futures markets is still very low. As a result, it is difficult for any big player to enter or exit with ease.

3. Since public sector agencies generally hold large inventories at any point of time, their entry into the futures market at a time when volumes and liquidity are low, may lead to distortions in the futures market. This is because these public sector agencies will mostly be sellers in the futures market, until they decide to sell short. In case these agencies offer at this stage large volumes for sale in the futures market, there can be a crash in prices for want of enough buyers to absorb such large offers.

4. Spot sales in the country are still taking place on the basis of daily prices and not on the basis of futures prices. Therefore spot prices are not moving strictly in tandem with the futures prices. This deficiency might be removed when there is an increase in volumes in the futures market and spot transactions are based on futures prices.

Vishwa Nath, however, hopes that the situation in this regard is likely to improve in the coming months. Now that the country's cotton economy gets integrated with that of the world, the cotton trade will have to seriously think of selling cotton based on futures prices plus basis. Once this process takes place in the private sector, the public sector will also have to think on these lines to remain competitive in the market.

Public sector agencies may also then adopt the same system of pricing cotton and may make sales on the futures market on that basis. Till that happens, however, the public sector organisations can avail of the futures market for hedging their price risks for the inventories held by them for the lean season's sales or against expected export sales.

In order to enable public sector organisations to become active in the futures market, it is imperative that volumes and liquidity in this market should improve. This will of course depend upon the emerging cotton trading scenario when forward sales in cotton become a regular feature due to availability of the futures market, he argues.