Overview
Trading in commodities is a very active and central aspect of the global markets, and we feel the effects of this trade in the price of fuel to food prices.
It covers the exchange of finished and primary products and agricultural products like gold, oil, wheat and coffee.
Such trades enable companies to lock future prices providing protection against volatility while presenting investors with possibilities to make profits with a different type of security asset.
There are two interpretations of commodity trade in India and these are the Multi Commodity Exchange (MCX) and the National Commodity and Derivatives Exchange (NCDEX).
In this article, we will discuss what commodity trading is, and why it is useful, how it operates, why you’re seeing platforms such as Grow emerge to make it possible for traders.
Commodity trading can also be translated to the trading of physical goods, or goods that are traded via futures contracts. Commodities are divided into two categories:
- Such are natural resources such as gold, oil, and natural gas; they are either mined or extracted.
- Such are the agricultural foods like coffee, sugar, Bekho wheat, and others that are grown or harvested.
These commodities are bought and held by traders for hedging or for speculation purposes with the price.
For this reason, people and companies engaging in this market can hedge against volatile price changes while at the same time making profits.
How Does Commodity Trading Work
The main way of trading in commodities takes place through the use of financial products – futures and options, where parties can bet on or protect themselves against price changes without having an interest in owning the commodity in question. Let’s break it down:
Futures Contracts
A futures contract is a bilateral agreement by which the two parties agree to exchange a stated amount of a commodity at a set price on a stated future date.
These contracts Assist firms minimize risks of price volatility (i.e., a farmer that wants to be sure of a set price for his/her wheat).
Let those businessmen and women try to earn profits from the movements of price of shares in the market. When the contract has running out the traders can cash settle without bearing extra charges or physically deliver the physical commodity.
Options Contracts
Futures give the buyer the possibility, not the imperative to purchase (call futures) or sell (put futures) the commodity at a fixed price during a stipulated period of time.
While futures put a cap on the amount of risk in the future price, options have an additional cost – the option price or premium.
They are especially used by traders to cut their losses at the same time gain much when specific prices are trending.
Settlement Methods
Traders can choose between:
- Is the physical transfer of the commodity to the buyer, and is mostly used by businesses.
- That is why only the difference in price between the contract and the market is traded, which is much easier for a trader.
These contracts can be closed out in two ways; By physically delivering the actual commodity in which the contract was written on or, by paying a price difference through cash settlement.
Many platforms such as Groww make this easy for you by offering user-friendly tools that enhance your ability to trade and also offering an educational material that would enhance one’s understanding of the trades.
Commodity Trading in India: A Booming Market
The trading of commodity in India have been growing at an increasing rate over the years due to the challenge India faces in meeting all its commodity needs through imports.
Key commodities traded in India include:
- Well known in investment and speculation against inflation.
- Absolutely crucial for industries; prices – for trading.
- Grains such as wheat, sugar and cotton are traded more and enable growers and merchandisers to hedge on price fluctuations.
The advanced commodity trading marketplace through the developing place online such as Groww, it’s facilitating India new investors regarding easy marketing, learning trading news as well as trading techniques, plus easy trading.
Benefits of Commodity Trading
Commodity trading offers a range of benefits for both novice and experienced traders:
- An inflation hedge is an item, which becomes more valuable with the increase in the rate of inflation; products such as gold.
- The incorporation of commodities into the investment menu minimizes general portfolio risk.
- Futures and options trading means position control with less amount of money as compared to the trading base amount.
- Fluctuations of commodities are also large, this meaning that there could be a profitable trade most of the times.
- These benefits can be utilized by traders via Groww which offers traders credible updates, trading education and easy navigation.
Starting in Commodity Trading
1. Open a Trading Account
In order to begin trading in commodities in India the first step is to open a trading account with a broker registered under SEBI. You can do this on the Internet website or off the Internet site. The broker will facilitate your trades and offer you a trading platform to do it from.
This means that an investor should always consider carefully finding the right broker who offers good customer support and relatively small brokerage charges. After the establishment of an account, you are ready to fund and trade in commodities.
2. Complete KYC Process
Under the Know Your Customer program, you are required to fill numerous fields regarding identification and financial profile. This usually consist of your PAN card, Aadhar number and recent bank statements.
KYC stands for know your customer and really aids in confirming the identity and economic position of every trader so that only serious people invest in the trade. Once your documents are confirmed you can go ahead with trading in commodities.
3. Choose a Commodity Exchange
Having at least five exchanges to trade commodities in India, some of the popular ones were MCX, NCDEX, and ICEX.
Every exchange has a number of contracts for trading in commodities such as metals, energy and agricultural products. An exchange in reference is therefore determined by the commodities to be traded as well as the amenities offered by the exchange trading floor.
When you choose an exchange, the trading can be done directly through your broker’s interface.
Commodity Trading Strategies for Beginners
1. Trend Following
The Trend Following Strategy is well suitable for novices in the commodity trading field. It refers to buying and selling according to the prevailing market movement –when prices are moving up or down.
Sometimes when trying to find patterns, traders employ indicators such as Moving Average or Relative Strength Index (RSI) to find out potential patterns of a trader.
The thought is to purchase a particular commodity when price is or has just started to rise or when it is making a breakout through the resistance level and sell when it is or has just begun to fall or when it is breaking out through a support level.
It also prevents the beginner from going against the trend, and they can use a stop order if the trend is about to turn in the opposite direction, to cut losses.
2. Mean Reversion
Mean reversion strategy is used to suggest that prices of the commodities will revert back to its average value in the long run. They look for products whose prices are far from the average price and choose to place their bets on the chance that they will revert back to the mean.
For Instance, if the price of gold is much below the average price in the market, a trader will invest in gold futures believing that they will go up to the average price.
It systemizes stock selection and risk management by analyzing statistical and historical trends of prices.
3. Breakout Trading
The Breakout Trading Strategy entails taking a trade once the price of a particular commodity crosses a key playing level or support and resistance levels.
For instance, if the rate of crude oil has been ranging at $200 barrel, and it reaches $225, the higher price indicates the likelihood of an upward movement. Here you would purchase crude oil futures in the hope that the price will go higher.
In order to avoid getting trapped in a fake breakout, in which the price declines, it is possible to set an SL a little below ₹7,000 to minimize losses.
4. Range Trading
Range trading strategies is one that focuses on the flow of slippage of a certain commodity or good within a given support and resistance level. The concept is that the commodity should be purchased when its price is close to the lower support level as it is be sold when its price is close to the upper resistance level.
For instance, when natural gas price trends between ₹200 and ₹ 250, you may purchase when at ₹200 level (support level) and sell when at ₹250 (resistance level).
This strategy is most appropriate for stable markets, in which price direction is not sharply trending one way or the other.
5. Spread Trading
It is the simultaneous purchase and sale of two related but different commodity contracts as a means of making profit from each contract’s price difference.
One of them is the calendar spread, where you’re purchasing a commodity for one delivery period and selling it for a different period. Here the objective is to lay it on that you will be exploiting the price differences between these two contracts.
For example, you assume that the price of crude oil for October delivery will increase more than that of the price for its November delivery then you purchase the October delivery contract and simultaneously sell the contract for November delivery in order to gain from the spread. It comes with less risk than full buying and selling since the minimum stake one can truncate is a given standard.
FAQ’s
What is futures contracts applicable in the commodities trading business?
Futures contract refers to a formal agreement between two parties made to sell a commodity at an agreed price at a specific time in the future.
What is spot trading?
This type of trading is also called the cash market where the buyer wants to receive the goods on the spot.
Are futures riskier than options or is it the other way round?
Futures: Binds the buyer/seller into fulfilling a certain contract which has been agreed on.
Options: Allows, but does not compel performance of the contract.
What are the dangers associated with trading in commodities?
Other risks related to investments consist of market risks, political risks, risks arising from unfavorable position regarding supply and demand, and risks due to the use of borrowed funds.
What are some common trading strategies?
Trend following
Range trading
Market analysis (grounded on supply-demand factors).
Arbitrage
what is meant by technical analysis in context of trading of commodities?
The price charts and pattern analysis that form technical analysis seek to give the investor a prediction of the future price changes.
What has to do with the costs of trading commodities?
Some of commissions include the brokerage fees, exchange fees and the margin fees.
What does the term margin mean when it comes to trading in commodities?
Margin is the amount of money needed to open and sustain the most basic structure of a trade.
Is the trading in commodities legal?
Indeed, regulatory authority for trading is provided by bodies such as Commodity Futures Trading Commission (CFTC) in USA for instance.
Is there a ban on trading in certain products?
Certain commodities can have limitations depending with certain market rules and policies or even legal forms of governance.
What is commodity market hedging?
Hedging is best explained as the utilization of commodities to minimize a loss in another investment.
Is it possible to automate trading of commodities?
Indeed, most traders employ algorithm or automated trade arrangement so as to increase their chances of gaining profits.
What is meaning of ETFs in commodities trading?
Commodity ETFs are Exchange Traded Funds that provide investment exposure on a specified commodity or a group of commodities.
How does geopolitics affect trading in commodities?
Factors such as political events, conflict and changes in policy can greatly influence the price of the commodity.