Why Choose Commodity Products? A Beginner's Trading Guide

In this era, the investment trend is making more people interested in finding ways to preserve value. Commodities are becoming one of the popular options. But before deciding to invest, traders should clearly understand what commodities are, their characteristics, and whether they are suitable for your investment goals. This article will take you to a deep understanding.

What Are Commodities? Everything You Need to Know

Commodities (or called raw materials) are basic raw materials used in producing other goods or general services for everyday use. Examples include copper, crude oil, wheat, coffee beans, and gold. These are commodities traded in financial markets worldwide.

Interestingly, commodities can be divided into two main categories based on their nature: Hard Commodities and Soft Commodities, each with different characteristics and price movements.

Soft and Hard Commodities - What Are They?

If we classify commodities by type, they fall into these categories:

Agricultural Commodities - Sugar, cotton, coffee beans, and other agricultural raw materials.

Livestock and Meat Commodities - Pork, cattle, and other animal products.

Energy Products - Oil, natural gas, and other energy sector resources.

Precious Metals and Minerals - Gold, silver, platinum, and other valuable minerals.

When referring to Soft Commodities, these are products derived from cultivation with limited shelf life, such as coffee beans, cocoa, oranges, and sugar. However, prices of soft commodities tend to be highly volatile due to uncontrollable factors like weather conditions.

In contrast, Hard Commodities are mined or extracted from nature, such as crude oil, natural gas, and various metals. Since these resources are finite and cannot be replenished once used, they are crucial in terms of supply.

The most frequently traded commodities in financial markets include:

• Gold (XAUUSD), Silver (XAGUSD), Palladium (XPDUSD), Platinum (XPTUSD)
• Brent Crude Oil (UKOIL) and WTI Crude Oil (USOIL)
• Natural Gas (NATGAS)
• Coffee (COFFEE), Sugar (SUGAR), Copper (COPPER)

Thailand also produces many commodities such as coffee, sugar, and soybeans. Besides gold, which Thais often hold to preserve value.

What Affects Commodity Prices? Factors Investors Must Know

Understanding what drives commodity prices is crucial. Price fluctuations result from multiple interconnected factors:

Demand Factors - Rising income and increasing population boost demand for commodities, especially in low-income countries. As income rises, people spend more on food and meat, driving up prices of agricultural commodities.

Supply Factors - Depend on labor, capital, land, water sources, and natural resources. Investment in research and development to improve production efficiency also impacts supply. After the 2008 crisis, investment in production decreased significantly.

Uncertainties and Natural Disasters - Climate change, weather variations, and natural calamities can cause unpredictable price swings, especially in agricultural commodities.

Investment Cycles and Speculation (Feedback Loops) - When many investors enter the futures markets, prices tend to rise. Higher prices attract more investors, creating a cyclical pattern that can be volatile.

In summary, price movements are driven by imbalances between demand and supply, which can be influenced by various reasons. Prices may spike when demand increases or supply is constrained.

Advantages of Investing in Commodities

Commodities offer many benefits that attract investors:

Hedge Against Inflation - Gold, silver, and oil are often seen as hedges against inflation. When living costs rise, prices of these commodities tend to increase as well.

Portfolio Diversification - Commodities usually have low correlation with other assets like stocks and bonds, helping to reduce overall portfolio risk and increase liquidity.

Good Liquidity - The prices of securities and bonds often move inversely to commodities, providing protection against risks and enhancing liquidity.

High Returns - Especially during economic uncertainty, commodity prices can rise rapidly due to supply-demand imbalances, natural disasters, or geopolitical events.

Long-term Growth Opportunities - As demand for certain commodities continues to grow while resources diminish, long-term appreciation potential exists.

Risks in Trading Commodities to Watch Out For

Although commodities have advantages, investing involves risks:

Leverage Risks - Trading commodities often involves higher leverage than stocks. High leverage increases risk; excessive leverage can lead to uncontrollable losses or overtrading.

High Volatility - Commodities are twice as volatile as stocks and four times more than bonds. Oil, gold, and natural gas are especially volatile. Rapid price swings can impair judgment and lead to poor decisions.

Inverse Relationship with Equities - Profits from commodities often move opposite to stock market trends due to differing economic factors.

Environmental Impact - Climate change and strict environmental regulations affect livestock, agriculture, mining, and extraction industries, potentially impacting future prices.

4 Ways for Beginners to Invest in Commodities

Investing in commodities is like accumulating value over time, as prices tend to rise with demand. However, direct purchase of physical commodities like natural gas or crude oil is impractical for most individuals. Therefore, trading methods have been developed, suitable for diversifying portfolios. For beginners interested in commodities, here are four methods:

Method 1 - Exchange Traded Funds (ETFs) for Commodities

ETFs allow you to buy a fund that tracks a specific commodity. Most commodity ETFs invest in derivatives or futures contracts to access the market efficiently.

Advantages include low initial investment—buying one ETF unit can be more accessible than purchasing physical assets. ETFs are highly liquid, tradable online anytime markets are open, and eliminate concerns about storage, theft, or extra costs.

Method 2 - Commodity Futures

Futures are contracts to buy or sell an asset at a predetermined price on a future date. They are used for gold, oil, stocks, bonds, or foreign currencies. Investors can profit from price movements without owning the physical commodity.

Futures allow profit from rising or falling prices and require only margin (collateral), not full payment, making them suitable for traders with limited capital.

Method 3 - Stocks of Commodity Companies

Investing in shares of companies involved in producing, trading, or extracting commodities, such as mining firms or oil producers (e.g., BHP, Rio Tinto, Vale, Wheaton Precious Metals, Barrick). This diversifies risk and provides inflation protection.

Method 4 - CFDs (Contracts for Difference)

CFDs are online derivatives trading instruments offered by brokers. They simulate direct investment without owning the physical commodity. Positions profit from price changes and can be opened long or short.

CFDs allow traders to profit in both rising and falling markets, with no need to hold the actual commodity. Positions can be maintained over long periods without rollover costs, only paying overnight interest. Markets are open 24/5, offering flexibility to trade anywhere, anytime, and access to various assets including stocks, indices, and commodities.

Investors can choose among ETFs, futures, CFDs, and stocks based on their interest. Proper asset allocation is essential, as commodities are highly volatile and should not constitute the core of a portfolio.

Hidden Costs of Trading Commodities

Many aim for maximum profit, but minimizing losses is equally important. Your profit from CFD trading isn’t just the difference between opening and closing prices; transaction costs matter.

Three main costs to consider:

Spread - The difference between bid and ask prices. For example, if gold bid is 1949.02 and ask is 1949.47, the spread is 0.45. To profit, your trade must surpass this spread.

Swap (Overnight Fee) - When holding positions overnight, a fee is charged at 23:59.

Commission - Some instruments charge a fee for opening and closing trades.

To calculate actual profit, subtract these costs from gross gains. Be mindful of these costs before trading.

For beginners, if you’re learning to trade, have limited funds, or unfamiliar with platforms, don’t worry! You can practice with a demo account offering $50,000 virtual funds to familiarize yourself with the platform risk-free.

Trading Hours: When Is the Best Time?

Commodity trading hours are not 24/7. They have specific opening and closing times depending on the region. Traders should check their broker’s schedule.

Sample trading hours (Thailand time):

Final Summary: Should You Invest in Commodities?

Commodities are an attractive investment avenue for diversifying your portfolio, offering benefits from inflation hedging to long-term profit opportunities. However, understanding the risks involved is essential.

The key is to choose a suitable broker that offers access to multiple markets, quick deposit-withdrawal, and low commissions. Also, thoroughly study and understand each asset’s risks before investing. Remember, commodities should not be the main component of your portfolio but used mainly for diversification.