The trading of commodities is a complex process, and has traditionally been undertaken by private traders and commodity brokers. However, recent rapid growth in the availability of online commodity trading has allowed many amateur investors to trade on the commodity market from their own home or business.
Commodity trading is a method of investing that involves the international trading of primary goods. These primary goods, or commodities, have several characteristics. First, commodities must be standardized, both in form and in quality. This uniformity is essential for there to be a set price on commodities regardless of where they are produced or who produces them. The crux of commodities trading concerns how this set price fluctuates over time. Also, standardization over the global commodity market is necessary in order to comply with the standards set by regulatory bodies for trade.
Secondly, commodities must be in a raw, basic state (hence the title ‘primary’ goods). In order for commodities to be applicable to the largest possible market, they must be in the simplest possible form. This allows them to be moulded and manufactured into whatever product the buyer produces. For example, a miller wishing to sell his produce would have access to a much larger market if he sold wheat rather than flour, for he would interest buyers looking to produce all wheat-based products.
Commodity trading is done either on spot markets or in futures. Spot markets are relatively straightforward. They involve trading commodities for an immediate, or ‘on the spot’, cash payment. Commodity futures trading, as the name suggests, involves the buying and selling of contracts for certain commodities not to be delivered immediately but at some predetermined point in the future. Commodity trading has traditionally taken place in designated ‘contract markets’, such as the Commodities Exchange Center in New York, yet now is increasingly found on the internet through online commodity trading.
Contract markets were first designated though the Commodity Exchange Act (1936) in the United States as places where deals would be observed for any fraudulent elements. The Commodity Futures Trading Commission is an independent regulatory agency in commodity exchanges and agencies such as the Financial Services Authority (FSA) in the UK and the Autorité des Marchés Financiers in France work to regulate commodity trade in Europe.
A commodity broker is the principal actor in futures trading. This is an individual or firm that buys and sells contracts on behalf of producers and buyers. They are expected to be able to identify profitable trends in the market. Commodity brokers can also provide advice about trends by acting as a commodity trading advisor; in both of these positions they work in exchange for a commission of the eventual deal.
One strategy that has been followed by amateur commodity investors in the past is to follow the trend. In order to do this, one must first choose a time frame for measuring market trends (25 market days is suggested). Then, one should buy when the closing price on that day is higher than it was 25 market days earlier and sell when the closing price is lower than it was 25 days earlier. Following the trends instead of attempting to predict them has been considered a safe and effective commodity trading strategy.