Commodity Trading: Beginner’s Guide

Commodity trading stockbrokers discussing and analyzing data

While most traders are largely familiar with the stock market and the Forex market, the commodity market offers great opportunities to generate profits, better diversify your investments, and hedge against inflation.

It’s an important market, with products such as iron ore, precious metals, and fossil fuels, whose price fluctuations have a significant impact on our day-to-day lives.

What are commodities?

Simply put, a commodity can be described as a raw material or natural resource used by individuals, companies, and governments to produce other finished goods. There are different kinds of commodities: energy such as oil, natural gas, coal, ethanol, etc.; Metals such as gold, silver palladium, copper; Livestock (cattle, sheep, hogs) and agricultural products like sugar, cocoa, wheat, cotton, etc.

Commodities can also be divided into two big categories: soft commodities and hard commodities. While soft commodities include agricultural products and livestock, hard commodities describe natural resources that can be mined or extracted from the ground, such as precious metals and some energy resources.

How can you start trading with commodities?

There are different ways you can start with commodities. You can invest in the physical form of a commodity such as gold or trade financial products on commodities via futures, options, ETFs, and shares. But one of the most popular trading vehicles for commodity traders are CFDs on commodities through online CFD trading providers like easyMarkets.

CFDs, or Contract for Difference, allows any trader to use margin and leverage trading to take advantage of larger market exposure. Moreover, you can take advantage of rising and falling commodity prices to make profits regardless of market direction. The contract is settled in cash, which means that you don’t have to deal with storage.

What makes the price of commodities fluctuate?

Every commodity has unique factors that affect its price, but some factors impact all commodities. So, let’s introduce some of the most important factors driving commodity prices today.

One of the most important factors is the supply and demand relationship. This can be influenced by many things, such as weather, market cycles, government decisions regarding policies, war, strikes, changes in consumer habits, regulation, and the health of a given economy.

As most commodities are priced in American dollars, the relationship between the American Dollar and commodity prices is important. This relationship is often described as a negative correlation, as both generally move in opposite directions. When the value of the USD increases, it takes more money for buyers in other currencies to get any commodities priced in USD, which tends to decrease its prices as the demand decreases – and vice-versa.

The weather can also influence the price of the harvested and grown commodities (agricultural commodities). Changes in the weather also impact the consumption of energy commodities in winter (heat) and summer (air conditioning).

Bottom Line

Everyone engages with commodities in one way or another in their daily lives, whether by having their morning coffee, orange juice, or hot chocolate, turning on the heat, or driving to work, which makes them valuable assets you can invest in trade in different ways. While there is no guarantee you will profit trading commodities, you can do a few things to enhance your trading performance.

First, you need to get educated to really understand how trading truly works. Then, you need to fully understand the commodity market and how you can take advantage of it. After that, you will need to determine the kind of trader you are to select the right trading style and strategy for you and the way you will analyze the market (fundamental vs. technical analysis). Finally, you will have to write down your trading plan with money and risk management rules and choose the right broker for your needs.

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