Beginners Guide to Commodity Trading
March 17, 2021
Beginners Guide to Commodity Trading
Trading commodities has been an age-old practice that has evolved over the years. There is a wide range of commodities today and modern-day trading takes place on exchanges such as the Chicago Mercantile Exchange or the London Metal exchange. One requires an account with a trading platform in order to be able to access the commodity markets. Before getting started with commodity trading, here is a guide to commodity trading that covers the basics you need know:
What are commodities?
Commodities are essentially materials or resources used to
make refined goods. As opposed to goods, commodities are standardised; two
units of a commodity in equal measure will be identical regardless of their
production or origin, thus also making them interchangeable. A few examples of
commodities would be iron, crude oil, natural gas, steel, cotton, silver,
grains, pulses, etc.
What is commodity trading?
Similar to stock trading, wherein one buys and sells shares of certain companies, in commodity trading, you can buy and sell commodity products. Commodities are traded on certain exchanges, and traders aim to profit off the changes in the commodity market by buying and selling these commodities. Commodity trading for beginners can be made easier with Contracts For Difference (CFDs), which is one of the most straightforward trading options. CFDs are basically financial instruments that provide you a chance to capitalize on price movements without the ownership responsibility of the underlying security.
Types of Commodities
Commodities can be categorized into four main groups:
1. Metal commodities: Metals like iron, copper, aluminium,
nickel are used in construction and manufacturing, while platinum, silver and
gold are used for jewellery-making and investment purposes.
2. Energy commodities: Energy sources like oil and
natural gas play a major role in powering the globe, and are used for
transportation, in our homes, factories, and so on. Other examples would
include uranium, ethanol, coal, and electricity.
3. Agricultural commodities: Commodities such as crops
and farm livestock which supply food and also contribute to other industries
such as the textile industry are another category. A few examples of agricultural
commodities would be sugar, cocoa, soybean, wheat, cotton, cattle and hogs.
4. Environmental commodities: This group includes
renewable energy certificates, white certificates and carbon emissions.
Commodities can also be categorized as hard and soft
commodities. Hard commodities are natural resources that are extracted out of
the ground, or mined. These would include copper, oil and gold. The other type
is soft commodities, which include agricultural products like sugar and cotton
or farm-raised livestock.
Why trade commodities?
For investors who are trying to diversify their portfolio,
commodity trading is a good option. Here are a few aspects of commodity trading
for beginners to consider:
1. Trading opportunities: As commodity prices are
generally quite volatile, this acts in favor of the traders by opening up
plenty of trading opportunities. Traders can also profit off upward as well as
downward price movements.
2. Leverage: As a trader, you can control considerable
amounts of money with small deposits by using ‘leverage’. This could
potentially help you magnify your gains, however it’s crucial to remember that
it may also magnify your losses.
3. Flexible trading schedules: Since commodity markets
are open for most of the week, it allows you to trade at a time that is most
convenient.
4. Diversification: As commodities have little to no
correlations with traditional classes of assets such as bonds or stocks, often
commodities rise during periods that see a fall in stocks and bonds, which can
help lower portfolio risks for traders. However, this is not a hard and fast
rule.
5. Protective hedge against inflation: Due to
unpredictable event risks such as economic crises, natural disasters, and wars
can affect the economy adversely, and currencies can also lose purchasing power
during periods of inflation. Commodities, which often tend to rise during such
periods, can protect the trader by acting as a barrier against such events.
Conclusion:
These are the fundamentals that can help you figure out how to
start commodity trading. It’s also important to consider factors such as
price or leverage risk, risk management strategies and other contributing
elements. Additionally, commodity prices can fluctuate with changes in supply
and demand and consumer as well as manufacturing trends. You can look for a
broker in order to make your foray into commodity trading easier.
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