Commodity Trading: Profit from basic goods

Asset classes

  • A commodity market allows investor to buy and sell raw products.
  • Commodities range from natural resources to livestock or agricultural goods.
  • Major US commodity echanges are:
    • The CBT: Chicago Board of Trade
    • The CME: Chicago Mercantile Exchange
    • The NYBT: New York Board of Trade
    • The NYME: New York Mercantile Exchange

Commodities are a vital part of the daily lives of most people. A commodity is a basic good used in commerce that can be interchangeable with other goods of the same category. Some traditional examples of commodities are gold, oil, grains, and natural gas. In this article, we will deep dive into commodity trading.

For investors, commodities can be a necessary way to diversify their portfolio beyond traditional securities. Since the prices of commodities tend to move in a different direction to stocks, some investors depend on them during times of market volatility.

Commodity trading in the past required a lot of time, money, and expertise, and was mainly limited to professional traders. Now, there are more options for trading commodities.

Everybody engages with commodities daily – from your morning coffee or apple juice, to the gas and crude oil that fuel your vehicle. As raw materials, you can invest these assets in, or traded, for a profit.

What is a Commodity Market?

This is a virtual or physical marketplace for purchasing, selling, and trading raw or primary products. Currently, there are about 50 major commodity markets in the world. They facilitate trade in approximately 100 major commodities.

Commodities are into two types: hard and soft commodities. Hard commodities are natural resources that you have to mine or extract – such as rubber, oil, and gold. Soft commodities are agricultural products or livestock – such as wheat, corn, sugar, coffee, soybeans, and pork.

What separates commodities from other goods is the fact they are standard and cannot be changeable. Their values are set by the relevant commodity exchange. This means that no matter who or where it they make it, two equal units of the commodity will have the same price. In the past, investors trade commodities physically. But today, most commodity trading takes place online.

History of Commodities Trading

A commodity market began in modern day Iraq as far back as 4500 BCE. Residents used clay tokens as a means of exchange for goats. In 17th century Japan, rice merchants used to sell their stores of rice by selling rice tickets to willing buyers.

But the global commodity market kicked off when the Chicago Board of Trade was setup in 1848. Today, it is one of the most popular kinds of markets to trade on.

Commodity trading is an ancient profession with a longer history than the trading of stocks and bonds. The rise of many empires can be directly associated to their ability to make advanced trading systems and facilitate the exchange of commodities.

In our world now, commodities are still exchanged. A commodities exchange is a physical location where the trading of commodities occurs. It is also legal entities that appear in order to enforce the rules for the trading of standardized commodity contracts. Most exchanges carry a few various commodities, even though some specialize in one group.

How Commodity Markets work

You can invest commodities in many ways. An investor can buy stock in industries whose business depends on commodities prices. You can also buy mutual funds, index funds, or exchange traded funds (ETFs) in commodities-related companies.

The most direct way of investing in commodities is by purchasing into a futures contract. This contract forces the holder to buy or sell a commodity at a certain price on a delivery date in the future.

Characteristics of Commodities

Generally, the basic principles of demand and supply are what drive the commodities markets. Changes in supply influence the demand. Low supply means higher prices. Therefore, any huge disruptions in the supply of a commodity can cause a spike in the demand for livestock. An example is a widespread health concern that impacts cattle.

World economic development and technological advances can also influence price. For instance, China and India emerging as important manufacturing players in metals has contributed to the lower availability of metals. An example of such metal is steel.

How to Trade Commodities

  • Select your market: Select the commodity, such as crude oil brent, gold or natural gas, that you want to trade on.
  • Make a buy or sell decision: Buy if you know prices will go up and sell if you’re certain prices will go down.
  • Go into a trade size: Decide on the amount per point movement or the number of units you want to trade. When trading, the value of one unit can change depending on the instrument you’re going to trade.
  • Risk management: Choose from some stop-loss orders, including guaranteed stop-loss orders. They work the same as regular stop-loss orders, except that they guarantee to close you out of a trade at the price you specify. They do this regardless of market volatility or gapping and for a premium. The premium goes back in full if the GSLO is not triggered.
  • Monitor your position: After you’ve placed your trade, monitor your open positions and follow your real-time profit or loss. Remember that losses can go beyond your deposits.
  • Close your position: If your trade is not automatically closed due to a stop or take profit order that is in action, close your trade. Close it any time you’re ready.

Categories of the Commodity Market

Generally commodities are grown, extracted, or produced. There are four main categories that define the commodity market, and they are:

Agricultural commodities

Coffee: This is one of the favorite beverages in the world, with 2.25 billion cups eaten daily. It is also one of the favorite commodity markets in the world, being the second most-traded market after petroleum.

Sugar: Both raw and white sugar are trade commodities. While most people think of sugar as a sweetener, it plays a vital role in the production of ethanol. The market growth prediction is a compound annual growth rate of 2.9 percent and it should reach USD 89.24 billion in 2024.

Energy commodities

Crude Oil: It is a popular commodity for trading due to its volatility. With the top producers of crude oil including Saudi Arabia, United States, Russia, and China, this market widely reacts to political events. Demand for this commodity is also high, because it has many uses.

Natural Gas: This has a range of industrial, residential and commercial uses, including generating electricity.

Metal commodities

Including precious metals like gold, silver, and platinum, and also base metals such as copper.

Gold: Gold is a safe haven asset. Investors typically put their money in gold when markets are fluctuating. Gold mostly has an inverse correlation with the US dollar.

Silver: Although gold is the most popular metal commodity for trading, silver also has some benefits. One of these is that its price moves a lot faster than that of gold. This makes it attractive for active commodity traders.

Copper: Copper benefits from consistently high demand. Copper serves for electrical equipment, engineering, plumbing, and cooking utensils. The price of copper is a reliable barometer of the global economy.

Livestock commodities

They include live cattle, general livestock, and pork bellies. They also include meat commodities.

In Summary

Both new and experienced traders have various options for investing in financial instruments. Such instruments can give them access to the commodity markets.

Commodity contracts give the most direct way to participate in the price movements of the industry. However, there are more kinds of investments that have less risk and also give sufficient opportunities for commodities exposure.

Commodities are risky investment propositions because they can uncertainties that are difficult can affect them, if not impossible, to predict. Some uncertainties include epidemics, unusual weather, and disasters (both natural and man-made).

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