How to trade commodities

Commodities trading is a popular way to speculate on a wide number of different markets and assets. Here, we take a look at what it entails and how you can get started.

Commodities trading

What are commodities?

The term Commoditiesis a broad umbrella that covers many products that are pretty much essential to everyday living. In this case, it’s raw, naturally occurring materials that are then processed in thousands of different ways, before turning into products everyone uses in their daily lives.

Crude oil, metals, gold, crops, sugar and so on are all part of the commodities family. These raw ingredients are taken away and turned into food, energy, and clothing.

One thing that sets commodities apart from other tradeable products is pricing. There is a higher degree of standardisation on prices worldwide. It doesn’t matter who is producing the asset or material in question.

For instance, gold produced in a Russian gold mine or Brazilian gold mine would have the same price.

This does change from asset to asset, however. It’s not a hard or fast rule. For example, certain crude oil blends are priced differently using different benchmarks, such as Brent Crude or West Texas Intermediate (WTI).

Why do traders like commodities?

There are a number of reasons why traders like commodities.

  • Variety – With plenty of markets to choose from, traders can select to trade across a wide variety of markets.
  • Safe havens – Some commodities, like precious metals, are strong value stores. They retain their physical value – even in times of global economic turbulence.
  • Speculation potential – Prices of some commodities can be quite volatile. Just look at how oil has changed over 2020-2021 for instance. That means there is a lot of potential for high profits if you speculate correctly. However, this does mean you could lose more money too.
  • Hedging against inflation – Commodities’ value is not pegged to currencies. If a currency’s value falls due to inflation, then a commodity may hold its value in contrast. As such, many traders and investors use them to hedge against inflation.

Adding commodities to an investment or trading portfolio is also a great way to increase diversification. A diverse portfolio, in theory, is more insulated against the risks inherent to financial trading. If one instrument or asset, say equities, falls, then the commodities could help cover those losses.

What commodities can you trade?

We briefly touched on this earlier, but there are lots of different options available to would-be commodity traders.

Generally, commodities can be split into four categories:

  • Metals – This incorporates precious metals like gold and silver, as well as more common, industrial ores like iron, copper, nickel, and lithium.
  • Agricultural products – This category includes both edible and non-edible products. Wheat, grain, cocoa, and sugar are edible commodities. Cotton, palm oil, and rubber are examples non-edible commodities.
  • Energy – The energy market covers crude oil, gasoline, natural gas, coal, and heating oil. It also include renewable energy like wind power and solar.
  • Livestock – Cattle, hogs and other live animals fall under the livestock category.

What drives commodity markets?

Price action in commodities markets is defined by supply and demand. Generally, the higher the demand the higher the price and so on. Low supplies coupled with high demand can lead to high prices too.

We’ve seen this recently with oil markets. Crude oil output had been negatively affected by the COVID-19 pandemic. Demand was low and output was minimal. As of October 2021, demand is high, but output is being kept relatively scarce by producers such as the OPEC+ nations to protect prices.

However, commodities prices can be more versatile than other assets. This is because there are lots of factors at play relating to their production. For example, livestock levels may be impacted by health issues, such as foot and mouth disease. A bad harvest will impact wheat prices. Weather can affect production of commodities, such as a hurricane shutting down natural gas infrastructure in the Gulf of Mexico.

Global economic trends can affect prices too. China and India’s emergence as industrial powerhouses has caused the availability of metals like steel to drop off in other nations.

The above trends make commodities prices hard to predict. Prices can show high levels of volatility. As such, it can be seen as riskier than trading or investing in other assets. Remember: you should only invest or trade if you can afford to take any losses.

How are commodities traded?

Commodities are typically sold on exchanges, in the same way stocks are traded on exchanges. In fact, many would say the birth of trading as we know it started with 18th and 19th century merchants trading crops.

At Markets.com, we offer commodities trading through contracts for difference (CFDs). These allow you to speculate on commodity price movements without owning the underlying asset. These are leveraged products, which means you can take a position with only a fraction of the trade’s value. This means your profits can be amplified – but so can your losses.

There are also commodity exchange traded funds (ETFs). These group together a number of assets into a single basket. Some ETFs will hold the physical assets they’re cover, for example a gold ETF might hold a certain amount of bullion or coins. Some are more complicated and synthetically mimic their underlying market.

A Markets.com account will give you access to a wide range of commodity markets, as well as thousands other assets. Open yours today and start trading your way.

Stocks firm as travel gets a boost

Morning Note

The reopening in the US and UK continues apace. More states are opening up bars, restaurants and other hospitality venues at full capacity, whilst Britons are set to resume international travel this month and get back in the pub too.  Europe is catching up fast on vaccinating its population and will be at a similar level by the summer. The vaccines are working. Stimulus is also supporting spending as US personal incomes soared by 21% last month. Dare we consider a return to genuine normality soon? Perhaps, but the picture is very uneven across the globe, as India shows all too clearly.

 

European stocks opened broadly higher on Tuesday before easing back to the flatline, with the UK market leading the way in a holiday-shortened trading week. The FTSE 100 rose 0.7% in early trade, testing the 7040 high from last month again before paring gains.  Infineon scrubbed 20pts off the DAX as the German index dropped by around 0.4%. US markets were higher on Monday, with the S&P 500 up 0.3% to 4,192 and the Dow Jones rising 0.7% to 34,113. The Nasdaq lagged, falling 0.5% as big tech names declined a touch following a period of strong gains running into earnings season. Tesla fell 3.5% and Amazon dropped over 2%.  

 

Profits at Saudi Aramco soared 30% versus last year as higher oil prices lifted earnings. Net income rose to $21.7bn. Crude prices have rebounded strongly in the last 12 months –it’s just over a year since WTI futures dropped into negative territory ahead of expiration. Crude prices have a bullish bias at the start of May with WTI futures (Jun) hovering around the $643.50 area and Brent just a little under $68. Whilst there concerns about the situation in India and implications for demand growth, this is being outweighed by hopes for demand recovering strongly. 

 

On that front, IAG shares rose over 3% to the top of the FTSE 100 as the US and Europe move to reopen travel this summer and Britons look set to be able to resume foreign travel from May 17th. As US states declare further moves to open things up, the EU is looking to enable people from outside the bloc who have had both their vaccinations to travel freely to Europe this summer. Talks on the plans begin today. Whilst progress is slow, there is hope that by the summer holidays travel will be substantially more possible. Airline stocks were broadly higher. TUI and EasyJet topped the FTSE 250, which rose to within a whisker of its intra-day all-time high this morning. 

 

Australia’s central bank left rates on hold but upgraded its outlook for the economy. Later this week the Bank of England is expected to do similar. The quarterly Monetary Policy Report should show better growth and higher inflation ahead as vaccines are working and enabling the economy to reopen as planned. The big question is over a taper of bond purchases. The thorny issue for policymakers is whether to use this meeting to announce how and when it will taper bond purchases. The yield on 10-year gilts is back to 0.84%, close to the March peak at 0.87% and could top this should the BoE signal it is ready to exit emergency mode. Policymakers may prefer to wait until June. Ultimately, the question about tightening is really one of timing, but the BoE cannot be blind to the economic data and this meeting could be the time to fire the starting pistol. The fact the furlough scheme is slated to run until September, the BoE has time on its hands and could wait until August. As far as sterling goes, also keep your eyes on the Scottish elections on Thursday, where a majority for pro-independence parties in Holyrood could up the ante in terms of a second referendum. GBPUSD tested 1.380 support yesterday before a rally ran out of steam at 1.3930 as it continues to hold the range of the last 2-3 weeks.

 

Gold touched the 100-day SMA and pulled back from the $1,800 area. MACD bearish crossover avoided for now but potential double-top at $1,800 could call for a deeper pullback. 

Chart showing gold performance on May 4th 2021.

Are UK equities about to shine?

Morning Note

The UK is a ‘buy’ is fast becoming the consensus view. As per Goldman Sachs yesterday, chiming views expressed here in recent weeks, UK equities are due to catch up. Analysts at vampire squid expect a free trade deal with the EU and “substantial room” for a strong economic rebound in 2021, as activity remains depressed and the UK is well-positioned for vaccine distribution.

Both should support GBP and UK domestic stocks, whilst they do not see a move up in sterling on a Brexit breakthrough as a significant barrier to FTSE 100 performance. Back to the strong pound = strong UK equities correlation of old. Meanwhile, the FTSE 100 has an expected 2021 dividend yield of 4%, making it the most attractive among developed market stock indices.

UK equities have trailed peers of late and the investment bank expects a further bounce relative to European shares assuming a trade agreement. And whilst UK domestic stocks have re-rated, they still trade at about a 10-15% P/E discount to the broad European market. Against the US, UK equities trade at a 35% discount based on a 2-year earnings outlook. Assuming a strong, vaccine-led recovery next year, they reckon this offers good value. Basically, the UK’s cyclical and value bias (a third of the FTSE 100 with virtually no tech) makes it well placed to benefit from a global recovery in 2021.

MSCI All World Index vs FTSE 350: UK due to catch up?

Are UK equities about to catch up with the rest of the world?

 

Good news, then, that the UK has rushed to be the first country to approve the use of Pfizer and BioNTech’s vaccine. Jabs will start in the coming days, with 800,000 doses arriving in the UK shortly. The FTSE 100 was flat even as European peers dipped in early trade, after a strong run-up in yesterday’s session took the blue chips back to 6,400. US futures were a little weaker after another strong day on Wall Street saw the S&P 500 rose over 1% to a new record, with the Nasdaq also setting a fresh all-time high. US 10-year yields spiked to 0.93% and stayed nicely within the rising channel – what will happen if it breaks 1%? A bipartisan group of lawmakers brought forward a new $908 billion stimulus plan in an effort to break the legislative torpor in Washington, whilst Jay Powell continues his testimony in Congress later today.

Staying on UK equities, Deutsche Bank this morning raised its price targets on British banks, catching up with the recent rerating, whilst retaining a cautious view on the sector. It warned that the cost of collecting on the coming wave of non-performing loans together with Covid recovery costs challenge potential efficiency gains for UK banks next year. Barclays, Standard Chartered and Virgin Money, the investment bank notes, are more “prescriptive and conservative on guidance”, so don’t need much by way of efficiency gains to avoid downgrading forecasts. On the other hand, consensus expectations for HSBC, NatWest and Lloyds “[are] more difficult to achieve”. Deutsche also closed its ‘sell’ call on Standard Chartered.

Brexit talks drag on – Barnier reportedly told EU envoys that the three main obstacles to a deal persist: fishing, level playing field and governance. GBPUSD continued to chop around the 1.33-34 region. Still expect a deal in the coming days – GBP crosses will be increasingly sensitive.

EURUSD broke out to its best level in almost three years as the bulls pushed the pair over 1.20 and sustained the move. Not a huge amount of resistance in the way of 1.25. The rally saw the US dollar index make fresh lows as the weaker dollar story is still playing out. Dollar down, equities and yields higher is the widely-held consensus view…what if everyone has this view?

EURUSD is at its highest rate for three years.

Oil fell as doubts lingered about the OPEC+ production deal and a report showed US domestic stockpiles rose sharply. The API figures on Tuesday showed inventories rose by 4.15m barrels last week, adding to pressure on prices amid signs OPEC and allies are not all on the same page with regards delaying a planned 2m bpd increase in production in January. WTI (Jan) dropped below $44 but has pared losses to trade around the $44.50 mark this morning.

Gold firmed – that real yield correlation reasserted itself and dip buyers came in post-Thanksgiving.

Gold firmed following a post-Thanksgiving dip.

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