Getting Started in Commodity Trading
Simply put, commodities are the raw materials driving our world - everything from coffee beans to gold bars. They fall into two main groups:
Like coffee, sugar, and soy, are agricultural goods crucial for food.
Such as precious metals, coal, and oil power industry and energy. Whether soft or hard, commodities share one key trait - they're traded globally on open markets.
With trading comes profit potential, but also complexity. While supply and demand set baseline prices, various wild cards can swing costs sky-high or dirt low. For farmers, extreme weather like droughts pose major risks. Geopolitics also steer oil markets - just one conflict in a key region can spike pump prices.
What is the commodities market and how does it work?
The commodities market connects buyers and investors to trade physical goods and financial products based on commodities. There are two key types of commodities markets:
Also called the physical market, this is where actual goods are immediately bought and sold for delivery.
Major exchanges like CME, TOCOM, LME, and NYMEX trade standardized futures, options, and other derivatives contracts based on commodities. Over 90% of CME volume is electronic, but traders still convene on the famous open-outcry floor.
- CME (Chicago) - Founded in 1898, today it handles billions in interest rates, equities, currencies, and commodity futures contracts daily.
- TOCOM (Tokyo) - Japan's largest and one of Asia's top commodity futures exchanges, offering contracts for metals, oils, grains and more since 1984.
- LME (London) - The go-to market for trading financial derivatives of metals like aluminum, copper, zinc, and nickel electronically or on its last open-outcry floor in Europe.
- NYMEX (New York) - A CME subsidiary powering energy markets for products spanning coal, oil, natural gas, and electricity.
In summary, the global commodities market seamlessly connects physical goods with standardized financial contracts, keeping supply and demand in sync worldwide. Trillions trade hands each year across exchanges utilizing both electronic and traditional open-outcry systems.
4 Factors That Move Commodity Prices
Supply and Demand
The basic market forces of supply and demand have a major influence on pricing. As incomes rise and populations grow, demand increases - pushing prices up. Production costs and government policies also play a role.
The amount of a commodity hitting the market depends on Mother Nature and human efforts. Weather patterns, available farmland, trade rules, subsidies, and innovations in farming all shape supply.
Cost of Getting it to Market
Expenses like labor, materials, R&D, taxes, and fees directly feed into the price tag. Higher costs put upward pressure on prices over time.
Strong economies mean people have more purchasing power. As countries develop and urbanize, consumption tends to rise fast - especially for bulk goods. Major producers and consumers can move prices worldwide.
In summary, a balanced interplay between these four forces - supply, demand, costs, and economies - determines the price level for raw materials on world commodity exchanges.
How to Trade Commodities
Commodity trading occurs via contracts for difference (CFDs). A CFD simply agrees a price and timeline for a transaction without owning the underlying asset.
For example, a gold CFD tracks price moves in real-time without holding bars of gold. Buy positions profit as prices rise, sell as they fall.
There are three main CFD types:
- Cash CFDs - Physical delivery contracts at a set price/date for planning actual purchases.
- Futures CFDs - Prices factor in today's spot rate plus storage until the future delivery time.
- Spot CFDs - The current quoted price for immediate purchase/payment/delivery of a commodity.
In summary, CFDs provide a way to speculate on commodity price direction without the hassles of owning, storing or transporting physical materials. The contracts simply mirror underlying market values.
Why trade commodities?
Investors and traders trade commodities for distinct reasons. Some are attracted to the high volatility of certain commodities, which can lead to higher returns. However, the potential for higher returns always comes with higher risk. Traders might consider adding oil, gold, or copper to their list of trading instruments to expand their horizons or test their strategy on different instruments.
7-Step Guide to Commodity Trading
- Choose a trusted broker with your desired assets
- Complete a simple account verification for security
- Transfer funds for trading using common currencies
- Select a commodity like oil, gold, or crops
- Establish your strategy with risk management
- Open a buy/sell position using stops and targets
- Continuously monitor trades and adjust accordingly
- Always learn trading basics beforehand
- Start with a small amount you can afford to lose
- Use stop losses to minimize downside risk
Commodity CFDs allow anyone with an internet connection to potentially profit from global resource markets. Just be sure trade wisely with risk in mind.
Top Reasons to Trade Commodities
- Liquidity - Large global market means easy entry and exit from positions.
- Low Margin - Only 5-10% down opens the door to significant leverage.
- Hedging - Producers and consumers use futures to offset pricing risk.
- Diversification - Uncorrelated assets blend well with stock/bond portfolios.
- Inflation Hedge - Commodity values often rise when prices are creeping up.
In particular, gold and oil serve as two of the most actively traded commodities worldwide. Their deep liquidity allows for smoother trading flows and a market less prone to manipulation. Overall, trading commodities introduces important diversifying qualities while tapping global demand for raw materials. Ready to trade your edge? You can Join thousands of traders and trade CFDs on forex, shares, indices, commodities, and cryptocurrencies.
Some Frequently Asked Questions.
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