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Commodity

commodity

A commodity market is one that deals in raw materials rather than finished goods, such as cocoa, fruit, and sugar. Commodity pricing is primarily influenced by supply, demand, and scarcity. Futures contracts are the most traditional type of commodity investment. Physical trading and derivatives trading in commodity markets can include spot prices, forwards, futures, and options on futures. Commodity producers have used a simple form of derivative trading in the commodity market to manage price risk for ages.

The commodity market contains product varieties or grades, and each lot in a grade may vary from other lots in the same grade. That’s the reason why commodity deliveries have far greater implications for Buyers and Sellers. Commodity supply, like stock market supply, is not fixed. Certain commodities, such as precious metals, are thought to be a good inflation hedge and diversify a portfolio with a diverse set of commodities as an alternative asset class.

Below are the types of commodities

Hard commodities
They are the foundation of a country’s economic health, and global demand for such resources can be tracked to predict an economy’s stability. It is because the products’ supply and demand are largely predictable due to their fixed nature. Natural resources, such as metal ores and oil reserves, are examples of hard commodities

  • Precious metals – Gold, silver, palladium, etc
  • Energy – Oil, Coal, Uranium

Soft commodities
They are more volatile because their pricing mechanism is influenced by a variety of external factors. The production of such goods is heavily influenced by the environmental conditions of a country. It is one of the reasons why agrarian economies are more vulnerable to events such as climate change

  • Agriculture – rice, wheat, mango guava, sugarcane, cotton, etc
  • Livestock – Milk, Red Chili, sugar, egg, Cardamom

Risk of commodity market

Fluctuation is In-built
Commodities markets are heavily influenced by demand supply dynamics, resulting in high volatility in the event of an imbalance. Furthermore, any imbalance cannot be resolved overnight, resulting in long-term volatility. Consider all of the commodities that have reached new highs as a result of a sudden increase in demand post-growth while supply is unable to keep up. Furthermore, the recent Russia-Ukraine conflict has caused some commodities to approach lifetime highs last seen during the global financial crisis

Market hours and Trade Liquidity
From 9 a.m. to 11.30 p.m., the commodity market is open. The timing is deliberate in order to match commodity prices with international prices in the European and US markets. Because the commodity market is open for a longer period of time, there are times when fewer market participants are present. This situation raises the possibility that the commodity contract will expire before the seller finds a buyer. The contract has no value once it has expired. Although exchanges have addressed this issue by deploying liquidity makers, risks remain in many situations

Speculators and hedger
Commodity markets, like any other free-floating market, can be used for hedging and speculation. Businesses use futures to hedge against the prices of commodities they use in order to reduce the risk of financial loss. Speculators who act as counterparty, also participate in India’s commodity market.

Interest rate
Interest rates and commodity prices are inversely related because the costs of holding inventory fall in low-interest-rate environments. When it is inexpensive to store inventory, businesses are more likely to stock up, driving up costs.

National commodity exchanges in India

  • Multi Commodity Exchange of India Ltd (MCX)
  • National Commodity and Derivative Exchange (NCDEX)
  • Indian Commodity Exchange (ICEX)
  • National Stock Exchange (NSE)
  • Bombay Stock Exchange (BSE)

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