What are commodities?
A commodity can be defined as an essential good that can be used in commerce and always interchangeable with other commodities of the similar type; commodities are generally used as inputs in the generation of additional goods/services. The quality of a particular commodity may vary a little, but it is definitely uniform among all the producers. When they are being traded on an exchange, commodities must meet some set standards that are called as a basis grade.
Commodities can be either related to food, metals or energy, but they are actually an essential part of everyday life. Any individual who drives on a daily basis gets affected by fluctuations in pricing. Similarly, the one who eats a particular type of food only will be affected if the supply of that specific food time decreases. In the same manner, commodities also have the capability to differentiate a portfolio by crossing conventional security limits set for either the long-term or as a substitute to park cash while dealing in extraordinarily volatile or hard to survive stock markets. The important thing to notice here is that commodities always function in opposition to stocks.
The scenario with commodities used to be like that a particular investor didn’t invest in commodities because by doing so, a considerable time, professionalism and time is needed. Nowadays, however, there are a lot of diversified routes that lead to the commodity markets, as well as some of these ways make it convenient for non-professional traders also.
Various Types of Commodities
Tradeable commodities can mainly be divided into four categories which are:
- Metals (i.e. platinum, gold, silver, and copper)
- Energy (i.e. gasoline, crude oil, natural gas, and heating oil)
- Livestock and Meat (i.e. pork bellies, lean hogs, feeder cattle, and live cattle)
- Agricultural (i.e. soybeans, corn, rice, wheat, coffee, cotton, sugar, and cocoa)
Volatile stock markets hardly find some scared investors intending to transfer money to valuable metals like gold that has historically been seen as a trustworthy, reliable, and dependable alloy having high value. Such useful metals can also be used as a hedge in opposition to increased inflation or during devaluation time.
There are many types of commodity investments available for novice and for the expert traders to consider. However, commodity futures contracts represent the most convenient way to be a part of changing price movements; some of the other types of investments with changing risk as well as investment profiles also propose with a pool of opportunities. Commodities can fastly turn into risky investment platforms as they can be affected by fluctuations easily if its possible to know unordinary weather conditions, epidemics, and also disasters that could be either natural or humanmade or both. That’s why it may prove to be a welcoming idea not to allocate over 10% of a portfolio to commodities.
How commodities can be traded?
The buying and selling process of commodities is generally carried out via futures’ contracts on exchanges that define the quantity as well as the quality of the commodity about to be traded. For example, we can consider the Chicago Board of Trade, which stipulates that one wheat contract is equaled to 5,000 bushels and also depicts the grades of wheat that can be used to fulfill the contract.
There are basically two types of traders who trade on commodity platforms. The first kind of traders is buyers and second is producers of commodities; who use commodity futures contracts to hedge purposes for which they were truly planned. Theses traders fundamentally make or take delivery of an actual commodity as soon as the futures contract gets expired.
Commodity traders don’t function as stock traders, as stock traders emphasize on buying and selling equities, while commodity traders keep pushing to invest in commodities. These traders either take decisions depending upon forecasted economic conditions or arbitrage alternatives available in the commodity markets. Gold and Oil are two of the most specific and beneficial commodities to be traded, but markets are also there for wheat, cotton, cattle, sugar, lumber, pork bellies, silver, platinum and many other valuable metals.
Commodity traders generally don’t have a requirement for a particular asset which they are trading, but they need profit exposure through forward as well as future contracts. Contracts are mostly hedged, and actual delivery is an occurrence to happen rarely.
Commodity ETFs are certainly exchange-traded funds which invest in physical commodities like valuable metals, agricultural goods, and natural resources. A commodity ETF is generally focused on either a single commodity, holding it in physical storage, or it is focused on investments in futures contracts. Other commodity ETFs look to track the performance of a commodity index that includes dozens of individual commodities through a combination of physical storage and derivatives positions.
A commodities exchange can be said as an entity, or an incorporated non-profit association, which defines and comprises rules as well as procedures for the trading of commodities and related investments, such as commodity futures. Commodities exchange can also be called as the physical center where trading is being performed.