Investment Channels: What are Commodities?

Commodities can be defined as basic goods in commerce that are interchangeable and can be traded for others of the same type. More often than not, these are used as production inputs of other services or goods.

Although it’s quite uniform across producers, the quality of any given commodity can slightly differ. Further, a commodity must meet specified minimum standards to trade on an exchange. This is called a “basis grade.”

Although there are minor differences between the same commodity coming from different producers, it’s not the standard. When it comes to a popular commodity like an oil barrel, there’s basically no difference when it comes to different producers from multiple oil producing countries. But it won’t be the same for example, electronic merchandise or meat products like beef.

Some examples of traditional commodities are as follows:

  • Beef
  • Gold
  • Natural gas
  • Oil

Modern commodity markets are also now including financial products like indexes and foreign currencies. Further, technology has also made it possible to trade cell phone minutes and bandwidth.

Some examples of global commodity markets are as follows:

  • Chicago Mercantile Exchange (CME)
  • Chicago Board of Trade (CBOT)
  • Intercontinental Exchange Inc. (ICE)
  • London Metal Exchange (LME)
  • Multi Commodity Exchange (MCX)
  • New York Mercantile Exchange (NYMEX)

Who are Commodity Buyers and Producers?

A commodity market will be made up of buyers and sellers. It can be anyone from a major corporation to a farmer. For examples, a wheat farmer may get a futures contract to hedge against the risk of losses.

Once the contract expires, the traders will actual take or make physical delivery of the actual commodity.

In this scenario, the seller is the producer and the buyer can be a trader or even a speculator. This helps the farmer guarantee the end price at harvest after right after planting.

Buying and selling of any commodity usually take place via futures contracts on the exchange. The commodity that’s traded will be standardized for quantity and quality. For example, if you want to trade wheat on the CBOT, a single contract will equal 5,000 bushels. There are also rules on what grades of wheat can be used in a contract.

Who are the Speculators?

There’s also another type of trader in the market known as a speculator. These traders use commodities for the sole purpose of turning a profit. They never take or make a delivery of the actual commodity, they just intend to make gains from a highly volatile market.