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Commodity Markets: Myths v/s Reality

Mar-23-2019Blog by – Mr. Dhruv AjmeraRead Time: 3 Min.Word Count: 709370Commodity Markets: Myths v/s Reality
The Indian online commodity futures trading markets have been around for a decade and a half and still there is a sense of discomfort about them in the minds of some of the investors. This is particularly true of the individual retail investors who are not willing to participate in the commodities market due to a lot of factors which are nothing but myths. In fact, the overall volumes and liquidity in the local commodity derivatives market is likely to improve tremendously in coming months as the Securities and Exchange Board of India (SEBI) has recently allowed mutual funds and portfolio managers to invest in commodity derivatives.

Here are a few myths about the commodities market:

It is all about speculation: Most of the investors feel that commodity trading is undertaken by traders only for speculative purposes. However, there is more to the commodity derivatives than pure speculation. All financial markets consist of hedgers, arbitrageurs and speculators, helping in efficient price discovery and price-risk management. In this regard, the commodities function pretty much like stock markets. Also it is important to note that speculation does not necessarily mean pure gambling. Speculators are important market participants who inject liquidity and help hedgers transfer their price risk.

Lack of information: The price movement in commodities is a function of a number of factors like demand-supply conditions, global economic cues, currency market dynamics etc. For popular commodities like Gold, silver, crude oil and base metals, it is very much possible to access information in this regard from various financial news websites and television channels. Most of the brokers offering commodity trading also provide their own set of research and market updates and provide a good support to commodity investors.

Heavy investment: One of the biggest myths preventing the traders from trading in commodities is the misconception about margin requirements.Most of the commodity futures requirearound 4-5% of the total value of the contract. In fact, the investment requirement has eased further following the launch of mini contracts for popular commodities. The availability of options is also asupportive factor for retail investors as it brings down the capital to be locked in substantially.

Extreme Volatility: Unlike stocks, which can move by around 20% in a single session, metal and energy contracts can rise or fall up to 6% in a session. In case of agri commodities, the limit is only 4%. While it is quite true that major commodities like precious metals, energy counters and base metals are heavily influenced by the movements in their global counterparts, the extended period of trading means that the market offers plenty of opportunutities to take benefit of such price action. The timings for commodity trading are from 10:00 am to 11:55 pm for all the non agri commodities.

Delivery makes things difficult: It is widely perceived investors must be prepared to accept physical delivery of the commodities. However, this is not at all correct as only the commercial players are involved in taking and making delivery of commodities. As long as one closes contract before the first notice day, which usually occurs a few weeks before the contract expires, there are no issues regarding it.The online commodity derivatives exchanges in India have stringent quality control measures in place to ensure that commodities delivered to their warehouses meet high quality standards.

Conclusion:

There is a growing sense of awareness about alternative investing in recent years and increasing financial savings are prompting investors to test different financial avenues. Commodities offer an excellent option in such case given high liquidity and ease of transactions.  Almost all major brokers offer online trading in commodities in a similar manner to equities. It is advised that retail investors should start to trade in mini contracts of popular commodities and increase their quantum of trade as they become comfortable with the market with time.Remember that only with patience and research one may be able to frame good trading strategies. In fact, by tracking commodities like crude oil, gold and copper successfully, investors can also look to apply their understanding to commodity stocks in India. Sound money management skills are also a necessity though and it also recommended to use the leverage offered by your broker in a judicious manner.

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