For the investor with the keen eye, making the right investment within the right financial market can open doors to highly rewarding returns. Particularly, in today’s time, when the internet has made trading in just about any market easier and more accessible than ever. For this purpose, we will be taking a look at the difference it can make by comparing two incredibly popular markets: stock market vs commodity market.
What is the Stock Market?
The type of security that is an indication that an individual has an ownership stake in a publicly-held company, is known as a stock. A person’s stock in a company is represented by the number of shares he has of the company, which he can then sell or buy from other stock owners. The collection of markets where this sale and purchase of stocks takes place is known as the stock market.
A person can invest in the stock market by opening a trading and demat account with a brokerage firm. The brokerage firm can then get you connected with the relevant stock exchanges and carry out the trades on your behalf.
What is the Commodity Market?
The term commodity refers to a type of resource or goods that are useful in our lives, and can be traded with other goods of the same type. They can be of two types: hard commodities such as gold or oil, and soft commodities such as agricultural products and livestock.
A commodity market can be a type of physical or virtual market where such commodities can be bought and sold from one trader to another. There are various ways to invest and trade in commodities. These include direct commodity investment as well as purchasing commodity future contracts as an investment.
Differences Between Stock Market and Commodity Market
Now that we have understood the distinction between commodities vs stocks, let us take a closer look at the differences between their respective markets. Here are the prime factors that distinguish stock market vs commodity market:
- Impact of inflation: For the stock market, inflation is usually bad news as it means that the costs of planned expenditure will be higher and thus companies may suffer losses, leading to a fall in their share prices. However, for the commodity market, inflation is often good news as it means those holding the goods can now sell at a higher price than planned. However, for the experienced players, profits can be made in both scenarios. Similarly, a fall in commodity prices (say of oil) can increase the stock market indices.
- Ownership: After buying stocks in the stock market, an investor gains a fraction of ownership of a company. The most popular strategy of trading in a stock market is to hold a stock that you own and wait for a favourable turn of the market. In the case of commodity markets, however, the most common type of trading is done via the means of futures contracts. With futures contracts, there is no ownership exchanging hands between people. Instead, these contracts deal with future deliveries of commodities that are traded but rarely ever owned.
- Volatility: Out of all asset classes and financial markets, commodities and commodity markets tend to be the most volatile. When comparing the stock market with the commodity market, the latter is certain to have far more volatile trends. This is because the commodity market is known for having lower liquidity and is affected by ever-changing external factors such as supply-demand and geopolitics.
- Time Horizon: Investors in the stock market can hold their stocks for a short period of time, going as short as a trading day. However, stocks can also be held over years and decades, making them an ideal long-term investment. However, the time horizon on commodity trading is very different. The commodity market typically trades in contracts that are typically short-term. Also, unlike stocks, they come with a time limit or expiry, meaning they must be traded within the given time frame. Therefore, the commodity market is ideal for short-term investment.
- Trading hours: Commodity trading usually goes on for longer hours compared to equity trading. Stock markets are open for trade from morning to afternoon but commodity trading is nearly round the clock.
- Bid-Ask Spread: The bid-ask spread — a measure of liquidity– for stocks is lower. In stock market parlance bid-ask spread is the difference between the highest price a buyer is willing to pay and the lowest a buyer is willing to accept.
- Margins: Margin requirement for commodity trading is lower compared to equity. Therefore it allows the traders to take higher exposures which could prove very risky during sudden and sharp movements.
- Key indicators: Equity traders and analysts are mostly concerned about the quarterly numbers, dividends given by the company and the general macroeconomic conditions in the country. Commodity market traders focus on the demand and supply scenario more than other factors, in order to get a sense of the market. Commodity traders also need to focus more on macroeconomic variables than stock traders who focus more on the fundamentals of the companies alongside their markets.
- For new investors: Traders and market pundits considered an investment in commodities slightly easier as it mostly depends on the demand and supply scenario. The analysis required in the equity market to make an investment decision is more detailed. For instance, buying security would require you to go through the earning numbers, and past trends but to make a sense of the copper market, you mostly need to monitor the industrial growth scenario. Therefore there are fewer variables to be monitored in the commodity market than in the stock market which could be ideal for a new investor.
- Trading mechanism – In an exchange, stocks can be traded directly in the cash segment while commodities must be traded in derivatives form.
Common Factors: Commodity market vs Equity market
There are a number of factors that have a bearing on the equity and commodity market alike. For instance, interest rates. A change in interest rate impacts the rate-sensitive stocks and the overall stock market. Commodity rates are also impacted as the interest rate alters the holding cost of the inventory to an extent.
Choosing between equity vs commodity
Investors can choose between trading in the commodity market vs equity market depending on their risk appetite. A popular strategy in the stock market is to buy and hold for long-duration which is not possible in case of commodity trading. Choosing between the two — equity vs commodity — trading largely depends on your risk appetite.
Equity investment is more likely to suit long term goals while the commodity market can be a better choice for investors eyeing short term gains. Therefore an investor most importantly should keep in mind the basic difference of ownership and holding time frame between equities and commodities.