What is the commodity market?
A commodity market is a venue where investors can sell, purchase, or trade commodities, such as valuable metals, agricultural products, natural gas, livestock and meat, energy, and spices. Commodity trading is ideal for individuals looking to diversify their portfolios since these assets often aid with inflation. The Forward Markets Commission enables futures trading for about 120 commodities at 22 commodity exchanges in India.
The most popular exchanges for trading in the country are the Indian Commodity Exchange (ICEX), Multi Commodity Exchange of India (MCX), National Multi Commodity Exchange of India (NMCE), and National Commodity and Derivative Exchange (NCDEX).
How does the Commodity Market in India work?
The commodity market provides consumers and producers exposure to commodity items in a controlled and competitive marketplace. Market participants can use commodity derivatives to manage future demand or supply. Some commodities, like precious metals, are a good hedge against inflation.
Let’s understand with an example. Say you buy a futures contract for 100gm gold on MCX at ₹4,66,000 at a 4% margin. It will cost you ₹18,640. If the price of the gold the next day is ₹5,01,800, you will earn a sum amount of ₹35,800, credited to your linked bank account. In the same way, if the price drops the following day to ₹4,88,000, a charge of ₹13,800 will reflect on the bank statement.
A commodity’s value has a direct relationship with its demand and an inverse relationship with its supply. Other factors, such as economic policies, geopolitical conflicts, the global economy, production variables, etc., also impact a commodity’s price.
Spot, futures, and options contracts are all commodity contracts available in India. The value of the commodity the contract represents determines its worth. In a spot contract, sellers and buyers negotiate for the commodity’s prompt settlement at the commodity exchange. A futures contract requires the buyer to purchase the commodity from the seller at a set price in the future. Therefore, it acts as a promise of the transaction. Lastly, the options contract, similar to futures, sets a future selling price of a commodity but does not guarantee trade security from the buyer.
Commodities add to the diversification of the portfolio, and investors may benefit from adding commodities as an additional asset category. Some investors prefer commodities amid market turbulence since their prices often fluctuate in the opposite direction of equities.
Benefits of Trading in Commodity
Several benefits encourage investors to participate in commodity trading. Let’s look at them:
- Diversification of the portfolio: Commodity market returns are inversely related to stock and debt market returns because rising commodity prices affect manufacturing costs and the firm overall. Investing in commodities can reduce capital market risks.
- A tool for hedging: Commodity trading acts as an inflation hedge as inflation often raises the value of commodities, giving the investors higher returns. Businesses can also use commodity contracts to freeze the purchase price of the raw material to avoid paying more during price increases.
- Lower Margins- Stocks and bonds have a higher margin than commodities, which means the trader can enhance his commodity exposure with borrowed funds. During cash settlement, traders can get more significant rewards on price differentials.
Despite these benefits, commodities traders must remember the commodity market volatility exposes investors to increased risks, particularly in direct investments. Leverage makes gains and losses more pronounced, so if you think you can win big, you must also know that you can lose big too!
Since the prices of commodities rise when inflation surges, commodity trading in India is a good approach to fight inflation. However, the significant level of leverage in commodities futures contracts makes them a risky asset class. A commodities trader must regularly watch the market, be aware of the dangers involved, and do a comprehensive technical and fundamental analysis of every deal.
Marwadi Financial Services Limited provides detailed insights and analytical research reports to its investors to make informed decisions. We even offer intraday and positional calls. With Marwadi, you can quickly and conveniently participate in the Commodity Market through a simple interface that provides easy access to online commodities trading. Sign up with us today to open a commodity trading account to take advantage of our services in Commodity trading.