If you have ever found yourself in a business economy forum, you may have heard the word “markets” thrown around quite a lot. In business terms, the word “market” means anywhere, including the internet, where buyers and sellers can be found. There are different types of markets dealing with a variety of products, including stocks and FOREX.
In line with our precious metal bullion products and services, we will focus on a certain type of market that is becoming more and more popular in the US: commodities trading.
What are Commodities?
Before looking at the market structure and everything in between, we need to understand what commodities are. The answer is quite simple: a commodity is any product that is homogeneous to the extent that there is no differentiation between the two products from different producers.
For instance, two barrels of crude oil from two different countries are more or less the same product with little to no differentiation. The same goes for other products such as gold, iron, wheat, and sugar.
The commodities market can, therefore, define any place (formal or informal) that sellers and buyers of these goods meet to do business. It can be a physical location or a website.
Types of Commodities
Not all commodities have the same market characteristics. They are categorized into two main types.
Soft commodities are typical agricultural products such as wheat, coffee, corn, and sugar. Note that all these products have to be in their raw form and not refined in any way to qualify for sales at the exchange.
Hard commodities are natural resources or minerals that are valued highly in the market. For the United States, hard commodities include crude oil, natural gas, rubber, gold, and silver.
History of Commodity Trading
Commodity trading has been around for as long as human civilizations have been in existence. Kingdoms and empires around the world could not produce everything they needed and had to exchange goods with each other, which led to a practice commonly referred to as “barter trading.”
Historically, common goods exchanged included commodities such as gold, spices, salt, and other food items like sugar and wheat. As it is today, market prices were determined by many factors including the time of the year (season) and the underlying demand relative to the supply.
While most people who converged at commodity marketplaces were involved in the trading activities as sellers and buyers, some people made money by putting wagers on what they thought the prices of certain commodities would be. To do this, they had to gain a lot of experience and knowledge about price fluctuations. They did this mainly through extensive observations.
In today’s markets, these people are referred to as speculators.
Economic Factors Affecting Commodity Prices
There are many factors that directly or indirectly affect the prices of commodities in the US and global exchanges. Inflation and change in monetary policy by the government will affect the prices and volume of commodities on the market either positively or negatively. Geopolitical concerns such as an impending war or a hotly contested election, such as the last US election, will have negative impacts on commodity prices as investors panic. Other factors include the forces of demand and supply, speculation, and unforeseen disasters.
Trading in Commodities
To trade commodities, you have to join an exchange specific to the type of commodity you want to trade. There are several commodity exchanges in various cities in the United States, although the major ones are concentrated in Chicago and New York. The Chicago Board of Trade (CBOT) is one of the oldest commodity exchanges and facilitates the trade of oil, corn, rice, and ethanol.
Another major US exchange is the New York Board of Trade (NYBOT), which mainly deals with soft commodities. Other commodities exchanges include:
- New York Mercantile Exchange (NYMEX)
- Minneapolis Grain Exchange (MGEX)
- Kansas City Board of Trade
After joining an exchange, there are several trading options available to you.
If you have little experience with exchanges, you may consider investing in mutual funds or Exchange Traded Funds (ETFs). ETFs pool funds from a large number of investors and trades in a wide variety of assets to maximize the returns. Mutual funds work similarly.
You can also invest in over-the-counter (OTC) commodities through brokerages or product dealerships. As the name suggests, OTC trading takes place far from the regular exchanges and is associated with high risks and proportionately higher returns.
The most common way to trade commodities is through futures contracts. These are legal agreements created so that the buyer is willing to buy a particular commodity at a specific fixed price. The seller undertakes to deliver the commodity at a later date where the buyer will also provide the payment as per the agreement.
Futures contracts are popular with big corporations when purchasing highly volatile products such as jet fuel and food supplies. Such firms will enter into contracts with sellers to secure future supplies at existing market prices, thus reducing future expenses.
US Commodity Regulation
Every legal market in the US is regulated. The Commodities Futures Trading Commission (CFTC) is the body responsible for the regulation and control of all commodity and options markets on American soil. This body also approves or disapproves the inclusion of American citizens in foreign exchanges and is involved in licensing both local and international brokers.
The main reason for the formation of the CFTC was the need for efficient and transparent commodity markets, with a particular emphasis on consumer protection. As such, it is important to ensure that you only trade in exchanges and brokers approved by the commission. That way, it will be easy to file a complaint and recover your money in case of a misdeed in commodity trading.
Considered hard commodities, precious metals like gold, silver, platinum, and palladium are typically purchased from commodity exchanges by certified mints and dealers. These dealers refine the raw metal and turn it into bullion bars, coins, or rounds. Then they sell their products to the general public for investment or numismatic value.
Provident Metals is one such dealer. We deliver consistent customer satisfaction, industry-leading value, and state-of-the-art security to precious metal investors in both the US and Canada. As investment vehicles that represent a safe haven approach to diversification, precious metals like gold and silver are tangible, portable, and highly liquid commodities.
Browse our website or continue browsing our Bullion Buying Guide to learn more about commodities investing.