What is Commodity Trading and How Does It Work?

If you've ever glanced over the price of gold or seen the effect that the price of crude oil has on gasoline at the pump, then you've already been initiated into the world of commodities. I've always viewed commodity trading as it's more often than not exaggerated to be, with career professionals laboring in it. The fact is that it's a heck of a lot sweeter to all of us than many of us have any idea.

This blog is a starter guide for commodity trading for beginners, who are interested in learning more about what commodity trading is, how it works, and how you can start playing this exciting edge of finance. Want gold, crude oil, or crop commodities — this blog spells it out easy.

What Is Commodity Trading?

We've got the essentials.
Commodity trading is selling and trading raw or primary commodities such as gold, silver, crude oil, natural gas, wheat, and cotton. They are goods that are used directly or as input in the production of another commodity.

There exist two wide categories of commodities:
Hard Commodities: Natural goods such as metals, i.e., - gold, silver, copper, and energy goods such as crude oil, natural gas.
Soft Commodities: Animal- or crop-based commodities like sugar, cotton, wheat, coffee, and soybeans.

Why are commodities traded?

Commodities are everywhere, and their prices fluctuate in reaction to shifting global economic demand and supply. Commodity trading allows manufacturers (like oil producers or farmers) to hedge against price fluctuation risk and investors to earn profit from price change — exactly the way that people trade stock.

You don't require these commodities in physical form to sell them. You exchange the symbol of commodities — that's the way it works.

How does commodity trading work ?

Commodities are generally traded on commodity exchanges. There are two large exchanges in India:

MCX - Multi Commodity Exchange

NCDEX - National Commodity & Derivatives Exchange

Let's just note trading done:

1. Futures Contracts

A majority of commodities are traded in terms of future contracts. It is a promise to sell or buy a commodity some time in the future at an agreed price. If you believe that crude oil price will increase in a month's time, you can buy a crude oil futures contract now. You will be a winner if it increases but a loser if it declines. You do not necessarily need to take delivery of the wheat or the oil. The transaction will likely be cash-settled on the price difference in most of the cases.

2. Speculation and Hedging

Speculators buy and sell in anticipation of making profit from price movement. Hedgers (e.g., companies or farmers) trade to hedge against risk of price in the future.

This equilibrium between hedgers and speculators keeps the market functioning and provides liquidity.

How to Trade Commodities?

That is the overall concept of what commodity trading is.

Step 1: Choose Your Commodity

Choose a commodity you want to trade. Novices prefer to trade large ones such as:

• Silver
• Crude Oil
• Natural Gas
• Cotton
• Wheat

Step 2: Open a Trading Account

You will have to open a commodity trading account with a SEBI-registered broker. Some of the most popular commodity trading platforms in India are:

• Indiabulls Securities
• Angel One
• Groww
• Upstox
• Zerodha

Ensure that the broker is SEBI registered and MCX or NCDEX accessible.

Step 3: Know Contracts

There are several contracts of different size and maturity dates for all commodities. For instance, there are full-size (1 kg) to mini (100 grams) contracts in gold. Familiarize yourself with contract expiry, margin, and lot sizes.

Step 4: Start Small

Start trading with small capital to get accustomed to the market mechanism. All brokers provide a facility of demo account or paper trading to practice with no risk of actual money.

Step 5: Monitor and Exit Wisely

Keep a check on your trade on a daily basis and use facilities such as stop-loss orders to control potential losses. Don't trade emotionally and stick to your system.

Beginner Commodity Trading Strategies

And now that we know how trading is really done, comes learning and practicing some basic strategies. Here are some of the most widely applied ones:

1. Trend Following

It's a strategy in which you trade the direction of the overall price trend. When crude oil prices are going up, go long (buy). When falling, go short (sell).

2. Range Trading

Here you have a Price Range where the commodity is traded and purchased at lower limit and sold at upper limit.

3. Fundamental Analysis

Observe foreign news and demand-supply situations. Suppose, geo-political tensions in the Middle East raise oil prices.

4. Technical Analysis

Use price charts, moving averages, and technical indicators like RSI and MACD to decide where to enter and where to exit.

5. Risk Management

Diversify positions always and use stop-loss. Never invest where you will regret if it is lost.

How to Invest in Commodities? (Not Just Trade)

If day trading bores you, then you can long-term invest in commodities too. Investing In Commodities can be done in the following ways:

Commodity ETFs or Mutual Funds - Invest indirectly in commodities in mutual funds or ETFs that track commodity prices.

Gold Bonds & Digital Gold - regulated and safer alternatives, particularly in India.

Physical Commodities - Collecting gold coins or silver bars (not suitable for trading as there is an element of storage and security concerns).

Commodities long term investment can act as a hedge against inflation as well as diversify your bond and stock portfolio.

Advantages and Disadvantages of Trading Commodities

Advantages:

• Diversifies your portfolio
• Helps in hedging against inflation
• High liquidity (particularly MCX-traded commodities)
• Probability of profit due to price volatility

Disadvantages:

• Excessive price volatility
• Leverage risk (you can lose more than you invested)
• Time and discipline to monitor world markets

Tip: Always start small, learn, and never bet your money on tips or rumors.

Conclusion

General commodity trading is a great way to invest and ride the waves of world prices — even for a novice. With education, equipment, and groundwork, you can become part of this profitable venture.

With the knowledge of finance and fintech, in my personal opinion, there are limitless opportunities in commodity markets for Indian traders. Only ensure that you start small, learn and learn again, and trade wisely.

For those looking to go a step further in planning their finances, platforms like Indiabulls Securities Limited can help. With their market insights, investment tools, and user-friendly platforms, managing your portfolio while being tax-efficient becomes a lot easier.

FAQs

1. What is a start fund for commodity trading in India?

You can start trading with ₹5,000-₹10,000 depending on the broker and the margin which commodity demands.

2. Is it possible for new traders to trade commodities?

Yes, but one should do it step by step and spare enough time to familiarize oneself with the market before trading good amounts of money.

3. Do we require a physical Demat account to trade commodities?

Yes. Commodities are not traded from a Demat account. You would require a trading account with a registered broker.

4. Is stock trading or commodity trading better?

Both are advantages and disadvantages. Stock is for long-term growth, whereas commodities add diversification and short-term gains.

5. Is profit on commodity trading tax-free in India?

Yes. Trade profit is speculative income and must be taxed based on your income slab. Take professional advice from a tax consultant in filing.

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