COMMODITY TRADING BY MCX EXCHANGE AND WPI
I. About Commodity
A commodity means a product, which is natural and can be delivered as an input in the production of other goods. The commodity has a commercial value. All such commodities can be traded on trading platforms & also in real life.
There are mainly four types of commodities.
Metals: Copper, Gold, Silver, Aluminium, Lead, Zinc, Nickel, etc.
Energy: Natural Gas, crude oil, etc.
Agriculture: Mentha Oil, Cotton, Cardamom, Crude Palm Oil, etc.
Livestock and Meat: Cattle, Eggs, etc.
II.Trading In Commodity
Through your Demat Account, you can trade in the commodity market. The commodity has been traded in lots not numbers. There is a huge value of every lot for any commodity. So there is the provision of a margin system. After paying only 5-10% of the lot value, you can buy them in the Futures.
In India, commonly used commodity exchanges are Multi Commodity Exchange (MCX), National Commodity and Derivative Exchange (NCDEX), National Multi Commodity Exchange (NMCE), and Indian Commodity Exchange (ICX). All are regulated by the Securities and Exchange Board of India (SEBI).
There are two types of traders 1. Hedgers and 2. Speculators in the market.
Hedgers are farmers, manufacturers or industries, which buy future contracts to secure their profits after production.
Speculators Are normal trades who want profits from the fluctuations in prices of commodities. They may buy commodities when prices are relatively low and sell them when they go up without ever taking physical delivery.
III. Illustrative Example to understand the Commodity Trading.
Let take the example of Hedger for understanding.
A farmer expects to produce 100 kgs of cardamom in a period of the next 1 year. Present Cardamom futures contracts value is Rs. 4500 per kg.
Let us assume that the farmer’s cost is Rs. 4500/Kg.
Assuming his profits, he buys one-year futures contracts at a price of Rs. 6000 per Kg.
Here, in this example: (4500*100) / 4,500 = 100 contracts
After Completion of One Year:
Irrespective of the price, the farmer:
Delivers: 100 Kg
Receives 6000 x 100 , or $6,00,000.
This price is locked in. There is the probability of loss & profit at end of the futures contract.
Let us assume the Cardamom was priced at Rs. 5400/Kg at end future contract.
The farmer receives an Rs. 5400/kg benefit from hedging, or Rs. 60,000.00
Let us assume the cardamom was priced at Rs. 6200/Kg at end future contract.
The farmer misses out on an additional Rs. 200/Kg profit.
SO this basic model of working of commodity trade for every type of commodity trades.
IV. Factors affecting the Commodity trading
1.Wholesale Price Index
The wholesale Price Index is an important indicator of price movement in the commodity market. WIP measures inflation, it is calculated in percentage against a base year. Presently base year is 2011-12. WPI is published by the Office of Economic Advisor, Department of Industrial Policy and Promotion in the Ministry of Commerce and Industry on a monthly basis.
2. Demand & Supply
demand and supply control the prices of commodities. And various reason such as festivals, weathers, etc affects the demand & supply. During festive seasons there is a huge consumption of spices, foods, fuels, oils, etc. Weathers also affect on the production of crops & utilization of fuels etc.
3. World political Factors
The production & consumption of commodities is directly related to various countries. Organization of Petroleum Exporting Countries (OPEC) countries’ decisions on the production of oils affect the prices of crude oil. Similarly, Australia & China has the largest reserve of lead, so their production strategies affect the lead price.
4. Economy Condition
The economic condition of Producers & consumer countries also impacts the price of the commodity. For due to the Corona pandemic, there are huge losses in the economy. So complete supply & demand chain is changed.
V. How to prevent losses in Commodity trading
1. Diversify the investment
It is better that you invest in 2-3 types of commodity. If one’s price will fail, the other will save you from loss.
2. Use Stoploss Policy
After every buy, put strategic stop-loss to save yourself from huge losses.
3. Margin Limit
Since Commodity markets run on a margin basis. Using only Rs. 20K, you can trade a value of Rs. 1 lakh. Profit is good on your invested money. But at worst conditions, you have to pay more than currently invested money (Rs. 20K). So it needs always an attentive approach regarding using of margin.
4. Use Technical & Fundamental Analysis
Before the trade, you must use Technical & Fundamental Analysis to select the commodity. Graphs are best in this case to analyze the condition of commodity prices over a large period of time.