Commodity trading is a basic market activity that is meant to meet a demand, whether it is a need or a want. Commodities are complex and have a profound effect on the economy and its consumers around the world.
In short, commodities are the raw materials, ingredients or components of almost everything we consume in a regular basis. Some of the most actively traded commodities are corn, wheat, soybean, gold, silver, copper, oil, gas, cattle, sugar, coffee, hogs, cocoa, and cotton.
What is commodity trading?
Commodity trading started in the late 1800’s using traditional agricultural products such as grains, livestock, butter and eggs. As the market evolved over time, trading has expanded to include financial contracts such as government-backed securities, metals, indices and equity indexes.
How are commodities traded?
Commodity trading can be done in two ways: through the spot market, and through the futures market.
- Spot Market
Spot markets are associated with real-time prices. For example, spot gold prices may be priced at $1,300 per ounce. This means, that gold for immediate delivery can be bought or sold at that current price. Spot markets are generally used by producers and businesses that actually use or are looking for the actual material. This is why, they are looking to pay spot prices that are readily valid.
- Futures market
The futures market is commonly used by speculators and investors. It is where commodities are not traded as is. Instead, investors deal with contracts to buy or sell the commodity at some point in the future. The contracts indicate a specific price and time that will be used to complete the transaction at a later date.
Are commodities right for you?
Today’s financial market offer a variety of choices for new investors. These choices include stocks, bonds, options, forex and commodities which are all viable instruments for those who want to capitalize on potential trends as they develop.
Here are some of the reasons why some people choose to engage in in commodity trading.
- Hedge against inflation
All currencies depreciate in value over time, this is also known as inflation. But when this happens, depreciation relates only to the currency and not to the assets priced with that currency. When investors trade commodities during inflation, the value of their investment goes up while the rest of the markets suffers.
- Diversification of portfolio
Portfolio diversification simply means that an investor can greatly reduce risk when they spread their resources among a larger number of asset classes. This is another reason investors can benefit from commodity trading as part of a broader strategy.
- Protection from stock collapses
Investors can protect themselves from the negative effects of stock collapses when they use commodities as an alternative vehicle for allocating resources.