How to trade on commodities: a complete guide

A commodity is a physical good that can be bought or sold on the commodity market​. The debate of commodity vs product relates to the beginning and end of the production process. A commodity is a raw material that is used in the manufacturing of commercial goods, and the product refers to the physical goods as a result.

Commodities can be categorised into either hard or soft varieties:

There is a wide range of commodities you can trade, although it’s the energy markets, in the form of oil and gas trading, and metal markets, in the form of gold and silver, that tend to be more popular with commodity traders these days. The most actively traded commodities will differ depending on how the markets are performing.

For instance, a highly volatile petroleum market may attract more price speculators. This increases both volume and open interest:

Commodity trading covers the buying and selling of a large range of raw materials. Investors can buy and sell commodities through either futures contracts on an exchange, or forward contracts​ over-the-counter (OTC). This effectively means that prices are agreed upon months in advance, and these exchanges standardise the quantity and minimum quality of the commodity.

For example, the London Commodity Exchange might stipulate that 5,000 bushels comprise one wheat contract. It would also state which grades of wheat could be used to satisfy the contract. All wheat that meets that grade and criteria will be sold for the same price, regardless of where it was grown, and any slight variations in quality.

In the physical commodities market, there will be an actual exchange of goods. A breakfast cereal producer might also buy a futures contract for corn with a delivery date months in the future. This way, buying under a futures contract will protect the buyer if the future market price of corn is higher than the agreed price. The certainty that the transaction will take place allows both parties to plan and budget confidently.

Many commodity traders, however, do not take physical ownership of the goods. Instead, they can take a financial position (long or short) on a commodity using derivative products such as spread bets (UK and Ireland only) or contracts for difference (CFDs). This will depend on whether they think the value of the asset will rise or fall.

A commodity trader is involved in the exchange of raw materials. The daily trading efforts of commodity traders are often driven by a mix of fundamental and technical analysis. Traders stay up to date with the news on commodities to ensure they are aware of the macro-environmental forces that drive their prices, and then utilise technical analysis to make entry and exit trading decisions based on past trends.

Agricultural commodities are staple products and often provide a source of food for the global market. These include grains, livestock and dairy products, as well as lumber. Agricultural trading is characterised by a dynamic market that is often influenced by a number of factors, including population growth, global demand, global warming and technology. However, the markets are generally expected to rise given the growing number of people and the rising wealth of consumers in growth markets.

Precious metals are often seen as safe haven investments​ due to their stability and reputation within the financial markets. They are often bought by governments, banks, hedge funds, and traders alike. For example, many traders use gold to diversify their portfolio risk, which is achieved by hedging against stock market risks, such as global inflation or political instability. This is because unlike fiat currencies​, gold often maintains its purchasing power in periods of prolonged inflation or market instability.

The energy markets are also popular among commodity traders. The advent of renewable energy trading​ has generated added interest for commodities such as national gas, heating oil, and gasoline. As with the oil markets, world events and politics can have an impact on the energy markets, so it is wise to keep an eye on news and economic releases. Some sources of energy cannot be invested in directly as a commodity, such as uranium, which is used for nuclear power stations. Instead, traders must gain exposure to uranium through uranium stocks and ETFs​.

At CMC Markets, we offer two types of leveraged derivative trading accounts that can be used for speculating on the commodity markets. You can open either a spread betting or CFD trading account, both of which are similar in their function but have some unique features.

Commodity traders can open a spread betting account to trade on price movements in commodity markets. Spread betting is a tax-efficient* method of trading as it’s free from capital gains tax and stamp duty. Please note that spread betting is only available to customers who reside in the UK or Ireland.

CFD trading is available globally, so traders can speculate on commodity markets wherever they reside. When trading CFDs, you have to pay capital gains tax, but trades are exempt from stamp duty. However, unlike spread betting, you can offset profits against losses for tax purposes.

It is also possible to trade on the price movements of exchange-traded funds​​​ (ETFs) using the above account types. Commodity ETFs invest in physical commodities, such as agricultural goods, energies, and precious metals, and track the performance of these materials through either spot or future contracts. These types of funds provide traders exposure to the physical commodity market without actually having to store or directly own the goods, which may be beneficial to many.

Some examples of commodity ETFs that you may spread bet or trade CFDs on include:

There are two ways in which commodity traders can get involved with speculating on raw materials. This is through:

The price of a commodity is reflected by its intrinsic value within the market, otherwise known as the 'commodity value’. This can change depending on market changes and updates. Some of the main drivers of price changes include supply and demand, seasonality, geopolitics, and storage and transportation concerns.

News trading involves following and responding to current social, political, and economic changes, which can be beneficial to both short and long-term traders.

For example, if a report was published stating that demand for gold has hit a ten-year low, many traders would look to sell gold over fears that its value is likely to decrease. A sudden rise in the number of people selling gold could have an impact on your trades, as it would push gold prices lower, and the value of gold would increase. Gold prices can also affect the price of copper, silver or other precious metals as well.

Many commodity traders take news releases and economic events into account in order to build an event-driven trading strategy​. They may constantly monitor and analyse the factors that are likely to affect the relevant commodities market, hoping to benefit from any changes in price movements.