The commodity market is the oldest form of trade. In the past before the introduction of currencies, people exchanged goods with one another in what was called barter trade. For instance, a person who needed corn would exchange it with someone who needed soya. Today, as a result of technology, it is possible for anyone to trade the global commodities market which is made of more than 20 instruments. Some of the most commonly traded commodities are: copper, gold, oil, heating oil, coffee, corn, and beans. Many traders focus their trading on currencies while others focus on commodities, equities, and indices. The benefit of trading commodities is that small movements can result to huge profits.
Different countries produce different types of commodities to sustain their economies. The Middle East countries are primarily supported by oil while many countries in Africa are supported by agriculture. In South Africa, gold is the main revenue earner while Nigeria depends on oil. Brazil is a key producer of coffee while New Zealand is renowned by the production of dairy products.
The pricing of commodities is primarily caused by supply and demand. An increase in supply of a certain commodity leads to a decline in its price. For instance, oil price has declined from a high of $110 per barrel in 2014, to the current $40 a barrel because of the increased supply. On the other hand, an increase in supply of coffee will lead to a decline in its price.
With the significant fluctuations in supply and demand of commodities, it is important for traders to understand ways of allocating funds to maximize the gains.
Another key to success is for a trader to focus on a few commodities, instead of focusing on all the commodities. The fact is that it is possible to make huge returns by focusing on 2 or 3 commodities, rather than many commodities. By focusing on 2 or 3, it will be very easy for the trader to read and track the movements of the commodity.
Before a trader starts day trading a certain commodity, it is important for them to conduct intensive research. This research should aim at identifying the key trends or factors that lead to the movements of the commodity, up and down.
The correlation between the commodity and other instruments is of key importance. In many cases, a commodity has a negative or a strong correlation with various currencies. For instance, gold and the dollar have been identified as having a strong negative correlation. This means that when the dollar strengthens, gold reacts by weakening. However, as a trader, you need to constantly calculate the correlations between the instruments. Another good example of correlation is Brent and WTI which have a correlation of close to one meaning that when Brent falls, WTI falls too.
As a day trader, it is important to be on the lookout for a number of economic data which have an influence on the commodities. For instance, in the United States, the crude oil inventory data is released on a monthly basis. OPEC (Organization of Petroleum Exporting Countries) also released economic data on oil production. Therefore, for any trader focusing on oil, these numbers can indicate whether there is an increased or reduced demand.
Another area you need to look at is on seasonality. Researchers have identified a number of seasonality issues in the commodities market. For instance, for coffee traders, there is a need to understand the period when Brazil and other producers harvest their crops. An increase in the volume will lead to reduced prices.
Linking commodities and companies
Commodities are extracted or mined by companies. For instance, companies such as BP and Chevron are the leaders in the oil and gas sector. As a result, a decline in the oil price will lead to a decline in the oil and gas companies because investors will expect less returns from the companies. Therefore, as a day trader, it is possible to correlate the prices of the oil and those of the oil and gas company and come up with a good trading strategy. The same is true for other commodities such as gold, silver, and zinc.
As a day trader, you can benefit from small price changes when trading with commodities. The commodity market is also predictable and easy to study. It also has a significant level of liquidity benefits where you can buy and sell within seconds.