What is Physical Delivery in Commodity Trading?

Commodity trading in India can be done either for speculation or for actual receipt of goods. While most traders square off their positions before expiry, certain contracts are settled through physical delivery, meaning the underlying commodity is actually delivered to the buyer. Physical delivery is a term in an options or futures contract which requires the actual underlying asset to be delivered upon the specified delivery date, rather than being traded out with offsetting contracts. This process ensures transparency, market discipline, and price discovery based on real demand and supply. In this article, we explore what physical delivery means, how it works, and what traders must keep in mind.

Physical delivery is a settlement method where the actual underlying commodity is delivered to the buyer upon contract expiry. This contrasts with cash settlement, where only the price difference is paid.

Example-

Imagine you're a trader in Gujarat who buys a futures contract on NCDEX to purchase 10 tonnes of soybeans at ₹4,000 per quintal. If you hold the contract until expiry, the seller must deliver the soybeans to an exchange-approved warehouse, such as one in Indore. You take physical possession based on the contract terms.

Key Formula

Final Payable Amount = (Contract Price × Quantity) + Delivery Charges (if any) + Applicable Taxes and Levies

Physical delivery comes into play under specific circumstances, such as:

Most Indian exchanges like MCX (Multi Commodity Exchange) have specific contracts designated for compulsory delivery.

Step 1: Contract Entry

Trader buys or sells a commodity futures contract marked for delivery.

Step 2: No Square-Off Before Expiry

If the position is not squared off before expiry, it enters the delivery phase.

Step 3: Warehouse Allocation

• The exchange designates warehouses (registered with WDRA) for commodity storage
  

• Buyer receives a warehouse receipt
  

• Seller is expected to deposit the commodity in the specified warehouse within a set timeline
  
  

Step 4: Quality Check

The commodity is tested for quality and grade. Only exchange-approved grades are accepted.

Step 5: Settlement

• The buyer makes the full payment
  

• The seller gets credited post delivery confirmation
  

• The buyer may collect the commodity physically or keep it in warehouse storage
  

The physical delivery process for commodity futures involves several key steps, as outlined below:

Physical delivery in commodity trading offers several benefits, including:

While physical delivery has advantages, traders should also be mindful of associated challenges, such as:

Several risks are inherent in physical delivery contracts, including:

• Non-standard Grades Rejected: Sellers must ensure the commodity meets exchange specifications
  

• Expiry Penalties: Traders not intending for delivery may incur penalties if not squared off in time
  

• Liquidity Risk: Contracts with compulsory delivery may be less liquid closer to expiry
  

Physical and cash settlements differ in several key aspects, as outlined below:

Physical delivery is suitable for specific market participants, including:

• Farmers and producers seeking market-linked pricing
  

• Jewellers or metal manufacturers who need actual raw materials
  

• Large commodity traders looking to arbitrage between spot and futures market
  

• Hedgers protecting future requirements or inventory
  

MCX regulates physical delivery through clear guidelines, including:

• Contracts are marked as “Compulsory Delivery” or “Both” (optional)
  

• Physical delivery is done at designated delivery centres
  

• Minimum lot size and quality specifications apply
  

• Settlement occurs on T+2 basis post expiry
  

Physical delivery in commodity trading is more than just a financial transaction—it's a bridge between virtual trades and real-world goods. While most traders choose to square off positions, understanding how delivery works is crucial, especially for hedgers and bulk commodity participants. It ensures that futures trading remains anchored to actual market fundamentals and fosters credibility in commodity exchanges.

This content is for informational purposes only and the same should not be construed as investment advice. Bajaj Finserv Direct Limited shall not be liable or responsible for any investment decision that you may take based on this content.