Commodity markets deal in soft commodities and hard commodities. Soft commodities are basically renewable and include cocoa, coffee, sugar, rice, soybeans, cotton and lumber. Hard commodities are generally fossil fuels, metals and other such products.
Commodities exchanges usually trade futures contracts on commodities, for example, in a certain month, A farmer raising corn can sell a future contract on his corn, which will not be harvested for several months, and guarantee the price he will be paid when he delivers; a breakfast cereal producer buys the contract now and guarantees the price will not go up when it is delivered. This protects the farmer from price drops and the buyer from price rises.
Speculators and investors also buy and sell the futures contracts in attempt to make a profit and provide liquidity to the system. However, due to the leverage provided by the exchange to traders those participating in commodity futures trading face substantial amounts of speculative risk
Commodity exchanges deal in standard contracts. Commodities comprise of standardized products which have been graded according to quality. These products are valuable commodities produced in large quantities according to the demand that is created in a market.
The exchange is represented by a central authority where trading takes place.
There is a physical location for this exchange and is an incorporated entity and acts as a non-profit organization that is in place to enforce rules, regulations and procedures. Most commodity exchanges are located in Japan, Chicago, New York and several European locations.
Commodity markets are located all over the globe. You can see futures contracts taking place in commodity markets where two parties agree to exchange the commodity in the future on a specific date at a pre-set price. This means that the price fluctuations in the market do not have an effect on this type of contract and the agreement will be concluded on the delivery date.
The producer of the commodity can lock in the price and be assured of that amount of return on the delivery date ensuring that his trade is stable.
Speculating in the commodity markets by third parties have gained in popularity. Investors buy and sell futures contracts in financial markets and this can be a profitable way of diversifying a portfolio. Commodity markets are not as popular as the stock market or the Forex market although some investors have started trading in commodity contracts.
By: Adma Dababneh