Hard commodities include metals such as gold, silver, etc. and energy resources such as oil and gas. Soft commodities include livestock or meat – cattle and other domestic animals, and agricultural produce – wheat, corn, etc. Commodities are also used for trading. The commodity market is a highly volatile market because its not only influenced by supply and demand but by other factors such as liquidity, natural disasters, and international politics. The risk-return ratio from this volatility makes it more attractive to traders than other financial markets.
Here are 3 commodity trading tips to help you navigate the risks of trading in this market.
1. Understand the factors that affect commodity prices
Over the past few decades, the growth in the global economy has also spurred the growth of the commodity market. With financial markets becoming more accessible, many traders have turned to the commodity markets to look for new trading opportunities. The commodity market tends to experience high volatility, which can have an effect on the trading strategies a trader employs. There are several factors behind the high volatility experienced by the commodity market; the key factors include the supply and demand of a commodity, currency movements, geopolitical situations, government policies and economic growth.
Economic
The status of the economy for a country can affect commodity prices as it determines the purchasing strength of its population. During weak economic times, commodities are less in demand, resulting in lower prices, while a boom in the economy can increase demand, resulting in higher prices.
When there is disturbance in supply in countries that are major producers of a particular commodity, the price change of that commodity is higher.
Political
In certain areas, Political uncertainty and geopolitical events, such as social unrest like riots and protests and closures of key transport routes, can severely affect a commoditys supply cycle. These events usually lead to production and transportation challenges, causing a shortage of supply, resulting in more volatility.
Examples of such events include the trade dispute between the U.S. and China, which resulted in higher tariffs, and the tensions in the Middle East, and caused disruptions in oil supply and higher prices.
Natural disasters
Natural disasters and wars have a catastrophic influence on the value of currencies. The morale and infrastructure of a country can be severely harmed by natural disasters such as floods, tornadoes, earthquakes and hurricanes. Such disasters usually have the same negative effect on a nations currency. Typhoons, for example, can destroy crops, affecting the supply chain, causing lower supply, and market price hikes later on.
2. Do an in-depth market analysis
Here it is suggested for both beginners and seasoned traders to monitor their price movements closely before making a trade.
As commodity markets are volatile in nature. There are two types of analysis that traders use to check how a commodity market performs — fundamental and technical analysis. Let's take a look ata brief explanation of what these are:
Fundamental analysis
Fundamental analysis involves assessing the economic well-being of a country, and by extension, the currency. It does not take into account currency price movements. Rather, fundamental forex traders will use data points to determine the strength of a particular currency.
A fundamental forex trader will analyze the countrys inflation, trade balance, gross domestic product, growth in jobs and even their central bank's benchmark interest rate. This analysis takes into consideration external events and influences along with financial records and market trends. Traders and investors use fundamental analysis to gather information based on financial data to make rational decisions before opening positions as well as to limit personal biases.
Technical analysis
Technical analysis involves pattern recognition on a price chart. Technical traders look for price patterns such as triangles, flags, and double bottoms. Based on the pattern, a trader will determine the entry and exit points. Technical analysis uses historical price charts and market statistics to examine and predict price movements in financial markets. The idea is that by investigating previous market patterns, traders can more accurately forecast future prices. Traders use technical analysis to develop or improve their trading strategies and determine the best time to enter and exit a market.
3. Befriend the market trends
This means you should be familiar with the Market trends, whether short-term or long-term, can provide insight into potential market movements. Generally, a trend represents how the price of an asset or the commodity market is moving. An uptrend occurs when prices are rising, and a downtrend occurs when prices are declining.
In commodity trading, traders take advantage of trends to better strategise their trades as they present higher chances of possible gains since prices tend to move in the same direction. This allows them to shift the odds in their favour and maximise their potential profits.
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