Commodities are basic goods listed in the Australian exchange that can always be traded for other goods or money. Common examples of tradable commodities include gold, oil and consumables like grains or beef. So what is commodities trading? Simply put, it’s the trading of all the aforementioned goods, a practice that was prevalent long before the financials stocks and market shares even came into existence. Before jumping into understanding this concept, readers must first know what commodities and commodity markets are and how they work in Australia.
Commodities: An Overview
Commodities that can be bought or sold are mainly categorised into four groups:
- Metals: Precious metals like gold, silver and platinum tops the list and still ranks as one of the most commonly sought after metals by big investors. Other metals that are commonly used for industrial applications are also listed under metal commodities. These include copper or palladium. Legally binding agreements called metal futures can also come under the category of commodities trading.
- Energy: Energy commodities make up for all the fuel that power Australia’s infrastructure and this includes gasoline, crude oil, natural gas and heating oil. Ethanol and uranium also make up for the names under this label, ethanol being traded as an alternative to foreign oil and uranium as a source of fuel for nuclear power plants.
- Agricultural: Agricultural commodities include every consumable and perishable game produce like meat, cattle, derivative products like milk, eatable like nuts and fruits. All the crops cultivated and animals grown in pastures come under agricultural commodities and can be traded in the commodity market.
Understanding Commodity Markets:
The market designated for selling, buying or trading all the commodities mentioned above is categorised as a commodity market. Globally, they are categorised as either soft commodities, which make up for agricultural products and hard commodities, which includes metals and energy commodities. Although this begs the question, why is there a need for a commodity market in Australia? Why don’t producers directly contact consumers for these products? The answer is simple, commodity markets give both the consumers of commodities as well as its producers a space to access these commodities as a marketplace. As a market, it functions in the same way the stock market does as it is centralised and seemingly liquid. Consequently, active participants can hedge, invest or speculate trends and market changes and throw money into the trades accordingly. The market functions in two major types:
- Spot: Immediate delivery contracts are signed in spot markets where both parties come together to exchange commodities.
- Derivative: The derivatives markets consist of forwards, options and futures. Forwards are contracts between buyers and sellers for commodities set at a specified price in the future. Futures are contracts set for predetermined prices for a commodity. Both forwards, as well as futures, make use of the spot markets as a basis for all contractual agreements. The third type of contract is called options and it deals with preset prices of commodities before the expiry of the agreement.
So what is commodities trading? It involves all the trading practices made for all commodities and their derivatives in Australia. The trading is usually brought about through the use of contractual agreements and is mainly done by investors to diversify their portfolios and cushion the blows of inflation. By the time of maturity of the agreed contracts, buyers can take the commodities home and add them to their growing portfolio. If the contract allows, buyers can also settle for cash and the value is determined at the time the contract voids.