Speculation is Good

Speculation is one word that has been over used and defined by every individual in their own suitable way. There are two kind of Wealth creators, one who create wealth over a period of time, by creating real assets giving consistent and modest returns year on year and then there is a breed of people like Georg Soros, Jim Roggers , Harshad Mehta who rise on the scene out of nowhere, and end up becoming hero’s and legends overnight. They don’t create wealth they own it. One might argue that one should create real assets and Jobs that would add value the Society. And we almost always blame the Speculators for rigging the prices, and take prices of commodities and stocks or for that matter any other asset class to nightmare proportions.
If you ask me speculation is the biggest gift of free markets, to the world. When we talk about great success stories scripted by Real wealth creators, we seldom forget the contribution of Speculators to their achievement. The most important thing that speculators bring to the table is liquidity. Speculators are buyers of risk they buy risk from hedgers or investors having interests or positions in underlying assets.
We have this tendency to blame speculators for bubble formation, and we don’t blame the bubble here, we tend to blame the breaking of it and me make the hoolah only after a crash, as we loose money else , we have a fantastic word for any asset bubble formation and that is ‘Bull-run’, the aftermath obviously brings us the pain , and we start to blame, but is it right to blame the Speculator? The real culprit is the leverage in the system .History has testified that men who were not over levered have survived the carnage of asset bubble bursts.
I am against banning of trading in commodities; the Govt. by doing so is not addressing the real cause of the price escalation. The degree of leverage is extremely high in the Commodities Futures market. For instance if we take the hottest sticky story of 2005 Guar Gum a commodity which saw nightmare prices, and daily trades greater than the actual yearly production. This commodity’s initial margin was 7% ( In case of additional volatility a special margin is charged on both sides in respect of all outstanding position, which will remain in force for next 2 days, after which the special margin will be relaxed.) this translates into a basic leverage of 14.3 times.
The extra leverage though earns you big, but then when it comes to taking back its very brutal. Managing risk’s is extremely important to impart sufficient liquidity and having logical proportions of leverage. Else we will see more asset bubble formations.

*Any Exchange requires its members to deposit and maintain in their accounts a certain minimum amount of funds for each open position held. These funds are known as margin and represent a good faith deposit that serves to provide protection against losses in the market. The Clearinghouse collects margins directly from each of MCX clearing members who in turn are responsible for the collection of funds from their clients. Margin requirements and contract specifications are subject to change.

This document by MCX was used for reference