Your guide to commodities trading
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What is commodity trading and why is it so important to traders?
Commodity is the oldest form of financial instruments. Commodities’ market is almost as old as human civilization itself. Historical evidence suggests that rice might have been the 1st commodity around 6,000 years ago. In times of Sumerian civilization (4,500 BC) people used clay tokens as a form of money to buy livestock.
Today, commodity trading forms the basis of the global trade ecosystem. With the advent of online commodity trading, private traders gained access to global commodities markets with relatively modest amount of capital.
Commodities have become a popular means of inflation hedging and portfolio diversification. For many traders and investors, commodity trading is a preferred way to protect funds and reduce the overall risk for their portfolios.
What are the major commodities?
Generally, commodities can be divided into four main categories:
Agricultural commodities, including food crops (cocoa, cotton, corn, coffee, etc.), livestock (hogs, cattle) and industrial crops (including wool and lumber).
Energy commodities, including natural gas, crude oil and gasoline, coal and uranium, ethanol and electricity.
Metal commodities, including base metals (i.e. iron ore, zinc, aluminum, nickel, steel, etc.) and precious metals (gold, silver, palladium and platinum).
Environmental commodities, including renewable energy certificates, carbon emissions and white certificates.
Some believe that cryptocurrencies – unique and extremely popular asset class – can be also referred to as commodities. Though the Swiss Financial Market Supervisory Authority (FINMA) and the US Securities and Exchange Commission (SEC) tend to regulate cryptocurrencies as something akin to shares, many consider real-world commodities as a much better analogue for crypto.
Proving this theory, Bitcoin is referred to as “digital gold” and many cryptocurrencies are “mined”. In the core essence, cryptocurrencies, the same as commodities, are free from outside control and their values are defined by market factors. Besides, cryptocurrencies can be also traded for goods and speculated upon. Having said all this, let’s put them here:
5. Cryptocurrencies, including Bitcoin, Litecoin, Ethereum, Ripple, Monero, and many others.
Why trade commodities
There are several major reasons to trade commodities:
Diversification
The presence of commodities in an equity-only portfolio can lower the volatility due to the absence of a direct correlation between commodities and other asset classes.
Safe haven
Commodities can serve as a safe haven in times of global economic uncertainty and market turbulence, because they can retain their physical value.
Inflation hedging
Commodities’ intrinsic value is independent from currencies. They will often hold their value, even if a currency falls during a period of inflation.
Speculation on commodities prices
Commodities may be highly volatile, experiencing wild price swings. Trading commodities CFDs is one way to try and profit from significant price fluctuations.
Commodity trading requires careful consideration due to the market’s occasional high volatility and a wide choice of available instruments, from derivatives such as futures and CFDs, to commodity-producing companies’ stocks.
With commodities, the chance of making large profits goes hand in hand with the risk of large losses. Commodity price may be very challenging to predict. The price can change abruptly due to several factors, such as weather, political unrest and labour strikes. Unlike with stocks, there are almost no fundamental financial metrics, such as price/earnings ratios, interest rates, etc.
How to trade commodities CFDs
One of the easiest and most popular ways to trade commodities is with CFDs. A contract for difference (CFD) is a type of contract between a trader and a broker in order to try and profit from the price difference between opening and closing the trade.
Investing in commodity CFDs saves you the inconvenience of paying for commodities storage, in case of physical delivery. Using CFDs to trade commodities will allow you to go long or short without having to deal with conventional commodities exchanges, like CME, ICE or NYMEX.
In addition, CFDs give you the opportunity to trade commodities in both directions. No matter whether you have a positive or negative view of the commodity price forecast, you can try to profit from either the upward or downward future price movements.
Moreover, commodities trading through CFDs is often commission-free, with brokers making a small profit from the spread – and traders trying to profit from the overall change in price.
Another good thing for you is that CFD is a leveraged product. For example, a 10% margin (the number may vary depending on the commodity and the CFD broker) offered by asiainsides.com means that you should deposit only 10% of the total value of the trade you want to open. The rest is covered by your CFD provider. In this case, if you want to place a trade for, let’s say, $1,000 worth of a particular commodity CFD, and your broker requires a 10% margin, you should spend only $100 to open the trade.
Top 5 global commodities exchanges
The advent of online trading had the biggest impact on commodities futures markets. The physical trading floors were replaced by electronic marketplaces. Today, millions of people around the world have access to commodities futures exchanges in different parts of the world.
Commodities price history
Historically, each individual commodity has different factors that influence its price. However, there are some general factors that has always played an important role in commodities’ price formation.
Demand from emerging markets. Fast-growing economies, such as China and India experience a growing need for raw materials and basic goods to feed people, build the necessary infrastructure and fuel their homes and factories. The demand from emerging markets has the biggest impact on commodity prices.
Supplies. The abundance or scarcity of commodity supplies may also result in significant price movements. Environmental, labour and political issues in major producing countries can impact commodities’ supplies and result in price movements.
The US dollar. Preserving the status of the world’s reserve currency, the USD can also influence the direction of commodity prices. When the dollar is strong, the commodity sellers get fewer dollars for their product and vice versa.
Substitution. When the price for a certain commodity goes up, buyers are trying to find cheaper substitutions, if there are any. For example, cheaper aluminum can often replace copper in different industrial applications.
Weather conditions. Many types of commodities strongly depend on weather conditions. For example, a severe drought or excessive rainfall can ruin crops supply. Storms, hurricanes and extreme cold weather can cause an increased demand for heating and result in rising prices for energy commodities, such as gas and oil.
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