Commodity Investing Information
Commodity investing is an investment that can make a nice profit--but with profit potential comes risk, the nemesis of any investor. Specifically, commodity investing is the process of entering into an agreement to buy or sell physical commodities, financial instruments and currencies. The contract can be for the purchase of either a futures contract or an option on futures. Commodity investing is also well known as a way to beat inflationary pressures and as an attractive alternative investment avenue. Unlike some other alternative asset classes, such as hedge funds, commodities have a long trading history, allowing for robust analysis of trading data.
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Types
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Commodities are the raw materials of our world, the natural resources we use to build the things we need and use. They are the raw materials used to create the products consumers buy, from food to furniture to gasoline. Commodities include agricultural products such as wheat and cattle, energy products such as oil and gasoline, and metals such as gold, silver and aluminum.
Uses
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Commodities are bought and sold in various ways. Daily sales of commodities are conducted on the "spot market." Futures contracts enable commercial consumers and producers of commodities to hedge future costs and selling prices. Airlines can lock in fuel prices by buying oil futures; farmers can lock in selling prices for their grain by selling grain futures.
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Features
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Commodities are traded in a variety of products, from oil and gas, livestock and agricultural produce to precious and industrial metals. They are described as being fungible, which means interchangeable. For example, a bushel of futures-traded corn from Iowa is treated as identical to a similar bushel from Argentina, and an ounce of South African gold is interchangeable with an ounce from Russia. Currency is also a commodity, as the Euro is the same everywhere.
Futures
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Commodity futures (contracts on future commodity prices) are standardized according to the quality, quantity, delivery time and location for each commodity. The only variable is price, which is discovered on a trading floor as traders get more accurate information about market conditions. Prices of many commodities—especially those of oil, nickel, tin, steel, corn and wheat—have increased over the past 10 years as populations grow and need access to additional resources.
Leverage
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Commodity investments are highly leveraged, requiring only 5 to 10 percent margin; therefore, interest is earned on the majority of invested capital. The leverage allows for more liquid markets, which provides greater flexibility and transparency in market prices. It also reduces the volatility associated with derivative products and ensures a continuous market.
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