Commodity Trading – Pros and Cons
What is a Commodity Transaction?
Commodity Futures Markets allow commercial producers and commercial consumers to offset the risk of unfavorable future price changes in commodities. They are selling or buying
Futures contracts must be standardized in order to work. They must have a standard size and grade, expire on a certain date, and have a preset tick size. For example, the Chicago Mercantile Exchange's corn futures volume is 5,000 bushels, with a minimum tick size of 1 / 4cent / bushel ($ 12.50 / contract)
Farmers may have corn fields to avoid falling corn prices before harvest Probably he could sell corn futures. He locked the current price, if corn prices fell, he profit from the futures contract to offset the actual corn losses. On the other hand, consumers such as Kellogg may purchase corn futures to prevent rising corn costs
In order to promote the flow of markets so that producers and consumers are free to buy and sell contracts, exchanges encourage speculators . The goal of speculators is to make profits by assuming the risk of price fluctuations that business users do not want. The Advantages of Commodity Trading
Lever. Commodity futures operate on margin, which means that only a portion of the total value in the trading account is to be paid in cash.
Commission Costs. Buying / selling a futures contract is much cheaper than buying / selling the underlying instrument. For example, a full-size S & P500 contract is currently valued at more than $ 250,000 and can be bought / sold for as little as $ 20. The cost of buying / selling $ 250,000 may be $ 2,500 +.
Mobility. The involvement of speculators means that futures contracts are fairly mobile. However, the liquid depends on the actual transaction of the contract. Electronic trading contracts such as electronic mini-stocks tend to be the most mobile, while pit-traded commodities such as corn and orange juice are not easily available to retail traders and are more expensive in terms of commission and spreads.
Ability is not strong. Futures contracts can be sold as easily as they were at the time of purchase, allowing speculators to profit from declining markets and rising markets. There is no & # 39; rising rule & # 39; for example there is stock.
There is no & # 39; time decay & # 39 ;. Options suffer from time decay because the closer they expire, the less time for the option to enter the currency. Commodity futures are not affected by this because they do not have a specific exercise price expected to expire. Disadvantages of Commodity Trading
Levers. Can be a double-edged sword. Low margin requirements can encourage poor money management, leading to excessive risk taking. Not only is the increase in profits, but also loss!
Trading Speed. Traditionally, commodities are traded. In order to trade, the speculator needs to contact the broker by phone to place the order and send the order to the pit to be executed. Once the transaction has been filled, the trader informs the broker and then informs his client. This may take some time and the risk of slipping may be high. Online futures trading can reduce this time by providing customers with direct links to electronic exchanges.
You may find a corn truck at your doorstep! In fact, most futures contracts are not deliverable and are cash settled at maturity. However, some, like corn, are deliverable, although you will get enough warnings and opportunities to close the position before the truck gets up