What is the Commodity Market?
The commodity market is an alternative financial market where investors trade physical goods such as precious metals, energy resources, agricultural products, and livestock. It serves as a viable option for portfolio diversification, offering protection against economic inflation. This market allows trading in five primary categories of commodities: bullion (e.g., gold, silver), metals (e.g., aluminium, copper), energy (e.g., crude oil, natural gas), agricultural commodities (e.g., cotton, rubber), and livestock (e.g., cattle).
Commodity Exchanges in India
India hosts 22 commodity exchanges under the Forward Markets Commission. The most prominent exchanges include the Multi Commodity Exchange of India (MCX), Indian Commodity Exchange (ICEX), National Multi Commodity Exchange of India (NMCE), and National Commodity and Derivative Exchange (NCDEX). These exchanges facilitate the trading of commodities, enabling investors to buy and sell contracts for various physical goods.
Functioning of the Commodity Market
The commodity market operates primarily through futures and options contracts. A futures contract is an agreement to buy or sell a commodity at a predetermined price on a future date. For instance, if you buy a gold futures contract at ₹72,000 per 100 grams on MCX, you might gain or lose depending on price fluctuations. Options contracts, on the other hand, provide the right but not the obligation to trade a commodity at a fixed price, offering flexibility to traders.
Types of Traders and Price Determinants
Two main types of traders operate in the commodity market: speculators and hedgers. Speculators aim to profit from price fluctuations by predicting market trends, while hedgers use the market to mitigate risks associated with price volatility, such as farmers protecting their produce’s value. Various factors influence commodity prices, including market demand and supply, global events, external production conditions, and speculative demand.
Relationship Between Commodity and Stock Markets
The stock market and commodity market often move oppositely. Commodity prices rise during inflation, lowering stock and bond values. During recessions, commodities, especially precious metals, are profitable investments.
The commodity market diversifies portfolios, reduces risk, and boosts agricultural investment. Uncontrolled leverage, extreme volatility, and economic and geopolitical vulnerability are its drawbacks.
Key Trading Considerations
Investors in commodity trading in India should understand price drivers, be aware of market volatility risks, and seek expert advice for better decision-making. Due to their leverage, commodity futures contracts require regular market monitoring.
Disclaimer: This blog has been written exclusively for educational purposes. The securities mentioned are only examples and not recommendations. It is based on several secondary sources on the internet and is subject to changes. Please consult an expert before making related decisions.