Before we understand about commodity trading, let us know what commodity means. A commodity is anything in the market, on which you can place a value. It can be a market item such as food grains, metals, oil, which help in satisfying the needs of the supply and demand. The price of the commodity is subject to vary based on demand and supply. Now, back to what is commodity trading?
When commodities such as energy (crude oil, natural gas, gasoline), metals (gold, silver, platinum) and agricultural produce (corn, wheat, rice, cocoa, coffee, cotton and sugar) are traded for a financial gain, then it is called as commodity trading. These can be traded as spot, or as derivatives. Note: You can also trade live stocks, such as cattle as commodity.
In a spot market, you buy and sell the commodities for instant delivery. However, in the derivatives market, commodities are traded on various financial principles, such as futures. These futures are traded in exchanges. So what is an exchange?
Exchange is a governing body, which controls all the commodity trading activities. They ensure smooth trading activity between a buyer and seller. They help in creating an agreement between buyer and seller in terms of futures contracts. Examples of Exchanges are: MCX, NCDEX, and ECB. Wondering, what a futures contract is?
A futures contract is an agreement between a buyer and seller of the commodity for a future date at today’s price. Futures contract is different from forward contract, unlike forward contracts; futures are standardized and traded according to the terms laid by the Exchange. It means, the parties involved in the contracts do not decide the terms of futures contracts; but they just accept the terms regularized by the Exchange. So, why invest in commodity trading? You invest because:
1. Commodity trading of futures can bring huge profit, in short span of time. One of the main reasons for this is low deposit margin. You end up paying anywhere between 5, 10 and 20% of the total value of the contract, which is much lower when compared to other forms of trading.
2. Regardless of performance of the commodity on which you have invested, it is easier to buy and sell them because of the good regulatory system formed by the exchange.
3. Hedging creates a platform for the producers to hedge their positions based on their exposure to the commodity.
4. There is no company risk involved, when it comes to commodity trading as opposed to stock market trading. Because, commodity trading is all about demand and supply. When there is a raise in demand for a particular commodity, it gets a higher price, likewise, the other way too. (can be based on season for some commodities, for example agricultural produce)
5. With the evolution of online trading, there is a drastic growth seen in the commodity trading, when compared to the equity market.
The data involved in commodity trading is complex. In today’s commodity market, it is all about managing the data that is accurate, update, and includes information that enables the buyer or seller in performing trading. There are many companies in the market that provide solutions for commodity data management. You can use software developed by one of such companies, for efficient management and analysis of data for predicting the futures market.