What is a Commodity?

A commodity is a group of assets or goods that are important in everyday life, such as food, energy or metals. A commodity is alternate and exchangeable by nature. It can be categorized as every kind of movable good that can be bought and sold, except for actionable claims and money.

Commodity trading in India started way back in time, even before it did in many other countries. But, foreign invasions and ruling, natural calamities, and many government policies and their amendments were significant reasons for the diminishing of commodity trading. Today, even though there are various other forms of stock market and share market traders, commodity trading has regained its importance.

Many young investors seeking beyond traditional investment options are inquiring, what is commodity trading? And, how to invest in commodities

Where to invest in commodities?

An introduction to the topic of ‘what is commodity trading?’ is incomplete without understanding the market. There are six major commodity trading exchanges in India as listed below.

  1. Multi Commodity Exchange – MCX
  2. National Commodity and Derivatives Exchange – NCDEX
  3. National Multi Commodity Exchange – NMCE
  4. Indian Commodity Exchange – ICEX
  5. Ace Derivatives Exchange – ACE
  6. The Universal Commodity Exchange – UCX

In 2015, the regulatory body of the commodities trading – Forward Market Commission (FMC) merged with the Securities and Exchange Board of India (SEBI). Commodity trading in these exchanges requires standard agreements as per the instructions so that trades can be executed without visual inspection. In general, commodities are classified into four types:

  1. Metals – Silver, Gold, Platinum, and Copper
  2. Energy – Crude oil, Natural gas, Gasoline, and Heating oil
  3. Agriculture – Corn, Beans, Rice, Wheat, etc.,
  4. Livestock and Meat – Eggs, Pork, Cattle, etc.,

When done right, commodities help spread risk and improve risk-adjusted returns of your portfolio. 

How to invest in commodities?

The best way to invest in commodities is through a futures contract. It is an agreement to buy or sell a specific quantity of a commodity at a set price at a later time. Futures are available in every commodity category. Traders use these contracts to prevent the risks associated with the price swing of a futures’ indirect trade of goods or raw materials. Trading in commodities involves a high amount of risk for amateur investors.

What are the advantages and disadvantages of futures?

Advantages of futures:

  1. Futures are highly leveraged investments
  2. Future markets are very liquid
  3. Futures give huge profits if traded carefully
  4. Affordable minimum-deposit accounts and controlled full-size contracts
  5. Long or short futures can be set as targets easily

Disadvantages of futures:

  1. Futures markets are volatile
  2. Direct investment in the markets is of high-risk, especially for novice investors
  3. Gains and losses are magnified by leverage
  4. The unpredictable movement of trade even before you close your position

More than 100 commodities are traded in the commodity futures market. Out of these, 50+ commodities are actively traded. These include bullion, metals, agricultural commodities, energy products, etc.

What are Exchange Traded Funds and Exchange Traded Notes?

Investors can participate in commodity price fluctuations. Trading in commodities without directly investing in Futures is possible with Exchange Traded Funds (ETF) and Exchange Traded Notes (ETN).

Using futures contracts, a particular commodity or group of commodities comprises an index. The price of these indexes is usually tracked by commodity ETFs. However, to simulate the fluctuations in price or commodity index supported by the issuer, ETNs are dedicated. ETNs are unsecured debts and both ETFs and ETNs do not require any special brokerage account to invest in.

What are mutual funds and index funds in commodity trading?

It is quite impossible for direct investment of mutual funds in commodity trading. Rather, there is an investment in stocks of the companies involved in commodity-related industries such as Energy, Food processing, or metals and mining.

Investing in stocks of such companies involve high risk, specifically company-related risks. The investment in a small number of commodity index mutual funds in future contracts provides direct exposure to commodity prices. Even though the management fee is slightly high and there is no fair play in the stocks, there are certain advantages of investing in mutual funds in commodity trading, including diversification of the investments, liquidity, and proper money management.

What is MCX trading?

MCX trading is a part of commodity trading basics. The trade of commodities in the commodity market facilitated by the MCX (Multi Commodity Exchange) is often referred to as MCX trading. MCX provides a platform for trading in commodities, just like BSE and NSE provide platforms for trading in stocks. An MCX broker (working at investment banks or broking companies registered with MCX) is the one who acts as an intermediary between the commodity trader and commodity exchange (MCX in this case). MCX trading allows trade in metals, energy, and agricultural commodities. The MCX conforms with the regulatory framework of the Forward Market Commission (FMC) that was merged with the Securities and Exchange Board of India (SEBI) in 2015.

How to choose a commodity broker?

Choosing the right commodity broker is a crucial part of the investment experience. The vast scope in the market has brought employment to many brokers.

But, credibility and experience mark the impression of a good broker. Every investor should do thorough filtration while selecting a broker. The charges that a broker quotes to a client may vary from place to place. Choose a broker wisely depending on the offers and fee waivers. Comparison of brokers on the basis of their charges might sometimes go futile. 

If you are a new investor, you would need more support from the broker for trading guidance. Choose a broker who understands commodity trading meaning and is capable of offering sound financial advice.  

Before signing up with the broker, the investor should check the platforms through which the investments are going live. A demonstration of the application or media is advised for novice investors. In India, the investments could be going live on the Multi Commodity Exchange when the trader is using an MCX broker service; or on other commodity exchanges such as NCDEX, NMCE, etc. depending on the commodity broker.

A broker with a strong and proactive customer support team is highly appreciated in the market. Relying completely on brokers without any proper market research may put the investor into losses. Select the right certified commodities broker and understand the process of depositing with a margin to complete the transactions.

Understanding commodity trading basics is important before investors step into the realm. Commodity trading involves high risk because of commodity price fluctuation, and hence understanding the basics will help them select the right investment approach. 

Hope we have answered your questions on ‘what is commodity trading?’. if you are ready to invest, start by opening a commodity trading account with Angel One.

How does commodity trading work?

Commodity trading happens through six major exchanges, as mentioned below.

  • Multi Commodity Exchange (MCX)
  • National Commodity and Derivatives Exchange (NCDEX)
  • National Multi Commodity Exchange (NMCE)
  • Indian Commodity Exchange (ICEX)
  • Ace Derivatives Exchange (ACE)
  • The Universal Commodity Exchange (UCX)

You can invest in myriad types of commodities in India, including metal and livestock. The best way to trade in commodities is through futures contracts, which is an agreement to buy or sell a commodity in the future agreed date at a pre-determined price.

What are the commodity products?

In India, you can trade in different commodity categories. Here is a list.

  • Metals – Silver, Gold, Platinum, and Copper
  • Energy – Crude oil, Natural gas, Gasoline, and Heating oil
  • Agriculture – Corn, Beans, Rice, Wheat, and more
  • Livestock and Meat – Eggs, Pork, Cattle, and more

Are commodities high risk?

Commodity trading is a smart way to diversify your portfolio, but it involves risk, especially for new investors. Futures contracts are highly volatile and have a higher entry-level threshold, which makes it an expensive investment.

Which commodity is best for trading?

In Indian market some of the top traded commodities are,

  • Gold
  • Crude oil
  • Copper cathode
  • Silver
  • Zinc
  • Nickle
  • Natural Gas
  • Farm commodities

Is gold a commodity?

Gold is traded both as a commodity and as bonds in the equity market. Gold as a metal is sold in commodity exchanges like National Commodity and Derivative Exchange (NCDEX), Multi Commodity Exchange of India (MCX), and the like.

Is commodity trading a good career?

Yes, the vast market attracts many brokers to it. But brokers with extensive experience, proactive attitude, and reliable after service customer support are likely to gain mileage over others.

Do commodity traders make a lot of money?

You can’t get rich overnight. But with time and experience, you can gradually build your credibility in the market to earn a good amount.

Are commodities riskier than stocks?

Commodity trading is considered less risky than trading in stocks. It is, in fact, 14 percent less risky than equities.

Commodities are traded through futures contracts, which offer a hedge against future risks and let you avert risk by entering into a long-short position.