What Is a Commodity?
A commodity is a basic good that is used in trade and can be exchanged for other items of the same kind. The majority of the time, commodities are utilised as raw materials to create other products or services. Therefore, a commodity is typically a raw resource utilised to create completed goods. Contrarily, a product is the finished good that is offered for sale to customers. A commodity’s quality may slightly vary amongst producers, but it is generally the same. Commodities, usually referred to as base grades, must also satisfy specific minimum requirements in order to be traded on an exchange.
Before you begin commodity trading, learn about the types of commodities available for trade. Some common categories are:
1. Agricultural (e.g. chana, soya bean, jeera, rice, rubber)
2. Metals (e.g. industrial metals like aluminium, copper and lead, and precious metals like gold and silver)
3. Energy (e.g. natural gas, crude oil, coal)
To participate in the commodity market in India, you must know how to trade in commodity exchanges. A commodity exchange is a regulated market where the trading of commodities takes place. Traders may choose not to take physical delivery of commodities and instead deal in Futures contracts. A Futures contract is an agreement to buy or sell a fixed quantity of a commodity at a pre-decided price and within a stated expiry date.
Here are the national commodity exchanges in India:
1. Multi Commodity Exchange of India Ltd (MCX)
2. National Commodity and Derivative Exchange (NCDEX)
3. Indian Commodity Exchange (ICEX)
4. National Stock Exchange (NSE)
5. Bombay Stock Exchange (BSE)
Many traders in the commodity market in India trade through Futures contracts. Businesses use Futures to hedge against the prices of commodities that they handle to minimise the risk of financial loss. The commodity market in India also draws participation from speculators.
BENEFITS OF COMMODITY TRADING
- Diversification – Commodity returns have a low correlation to returns from other assets. As an individual asset class, commodities can be considered to diversify your investment portfolio.
- Inflation safeguard – Commodities are considered a good hedge against inflation as their prices tend to rise during periods of high inflation. This helps maintain the purchasing power parity.
- Hedge against event risk – Supply disruptions during a natural disaster, an economic crisis, or war could push up the prices of commodities. However, the trading of commodities could help you guard against loss by leveraging strategically on price swings. For instance, to lock in the input price of a raw material, a consumer could take a long hedge by buying a Futures contract based on the commodities price today. Meanwhile, a producer that is aiming for a high sale price could choose a short hedge by selling a Futures contract