A commodity market is a physical or virtual marketplace for buying, selling and trading raw or primary products, and there are currently about 50 major commodity markets worldwide that facilitate investment trade in approximately 100 primary commodities.
Commodities are split into two types: hard and soft commodities. Hard commodities are typically natural resources that must be mined or extracted (such as gold, rubber and oil), whereas soft commodities are agricultural products or livestock (such as corn, wheat, coffee, sugar, soybeans and pork).
Commodities can be invested in numerous ways. An investor can purchase stock in corporations whose business relies on commodities prices, or purchase mutual funds, index funds or exchange-traded funds (ETFs) that have a focus on commodities-related companies. The most direct way of investing in commodities is by buying into a futures contract. A futures contract obligates the holder to buy or sell a commodity at a predetermined price on a delivery date in the future.
Major Commodity Exchanges
The major exchanges in the United States, which trade commodities, are domiciled in Chicago and New York with several exchanges in other locations within the country.
The Chicago Board of Trade (CBOT) was established in Chicago in 1848. Commodities traded on the CBOT include corn, gold, silver, soybeans, wheat, oats, rice and ethanol. The Chicago Mercantile Exchange (CME) trades commodities such as milk, butter, feeder cattle, cattle, pork bellies, lumber and lean hogs.
The New York Board of Trade (NYBOT) commodities include coffee, cocoa, orange juice, sugar and ethanol trading on its exchange. The New York Mercantile Exchange (NYMEX) trades commodities on its exchange such as oil, gold, silver, copper, aluminum, palladium, platinum, heating oil, propane and electricity.
Key commodity markets in regional centers include the Kansas City Board of Trade (KCBT) and the Minneapolis Grain Exchange (MGE). These exchanges are primarily focused on agriculture commodities. The London Metal Exchange and Tokyo Commodity Exchange are prominent international commodity exchanges.
Commodities are predominantly traded electronically; however, several U.S. exchanges still use the open outcry method. Commodity trading conducted outside the operation of the exchanges is referred to as the over-the-counter (OTC) market.
Regulation of Commodity Markets
In the United States, the Commodity Futures Trading Commission (CFTC) regulates commodity futures and options markets. The CFTC's objective is to promote competitive, efficient and transparent markets that help protect consumers from fraud, manipulation and unscrupulous practices. Regulation of commodity markets have continued to remain in the spotlight after four leading investment banks were caught up in a precious metals manipulation probe in 2014.
HOW IT WORKS (EXAMPLE)
Buyers and sellers can trade a commodity either in the spot market (sometimes called the cash market), whereby the buyer and seller immediately complete their transaction based on current prices, or in the futures market.
The Commodity Futures Trading Commission (CFTC) regulates commodities futures trading through its enforcement of the Commodity Exchange Act of 1974 and the Commodity Futures Modernization Act of 2000. The CFTC works to ensure the competitiveness, efficiency and integrity of the commodities futures markets and protects against manipulation, abusive trading and fraud.
There are six major commodity exchanges in the U.S.: The New York Mercantile Exchange, the Chicago Board of Trade, the Chicago Mercantile Exchange, the Chicago Board of Options Exchange, the Kansas City Board of Trade, and the Minneapolis Grain Exchange. The New York Mercantile Exchange Inc. is the world's largest physical commodity futures exchange. When the hours for open outcry and electronic trading are combined, some exchanges are open for nearly 22 hours a day.
Commodities exchanges do not set the prices of the traded commodities. Rather, supply and demand determines commodities prices. Exchange members, who act on behalf of their customers or themselves, engage in open-outcry auctions in pits on the exchange floors. During an open-outcry auction, buyers and sellers announce their bids and offers. When two parties agree on a price, the trade is recorded both manually and electronically. The exchange then disseminates the price information to news services and other reporting agencies around the world.
Commodities exchanges guarantee each trade using clearing members who are responsible for managing the payments between buyer and seller. Clearing members, which are usually large banks and financial services companies, require traders to make good-faith deposits (called margins) in order to ensure they have sufficient funds to handle potential losses and will not default on the trade. The risk borne by clearing members lends further support to the strict quality, quantity and delivery specifications of commodities futures contracts.
The Commodity Futures Trading Commission (CFTC) regulates commodities futures trading through its enforcement of the Commodity Exchange Act of 1974 and the Commodity Futures Modernization Act of 2000. The CFTC works to ensure the competitiveness, efficiency and integrity of the commodities futures markets and protects against manipulation, abusive trading and fraud.
There are six major commodity exchanges in the U.S.: The New York Mercantile Exchange, the Chicago Board of Trade, the Chicago Mercantile Exchange, the Chicago Board of Options Exchange, the Kansas City Board of Trade, and the Minneapolis Grain Exchange. The New York Mercantile Exchange Inc. is the world's largest physical commodity futures exchange. When the hours for open outcry and electronic trading are combined, some exchanges are open for nearly 22 hours a day.
Commodities exchanges do not set the prices of the traded commodities. Rather, supply and demand determines commodities prices. Exchange members, who act on behalf of their customers or themselves, engage in open-outcry auctions in pits on the exchange floors. During an open-outcry auction, buyers and sellers announce their bids and offers. When two parties agree on a price, the trade is recorded both manually and electronically. The exchange then disseminates the price information to news services and other reporting agencies around the world.
Commodities exchanges guarantee each trade using clearing members who are responsible for managing the payments between buyer and seller. Clearing members, which are usually large banks and financial services companies, require traders to make good-faith deposits (called margins) in order to ensure they have sufficient funds to handle potential losses and will not default on the trade. The risk borne by clearing members lends further support to the strict quality, quantity and delivery specifications of commodities futures contracts.
WHY IT MATTERS
Commodities are the raw materials used by virtually everyone. The orange juice on your breakfast table, the gas in your car, the meat on your dinner plate and the cotton in your shirt all probably interacted with a commodities exchange at one point. Commodities-exchange prices set or at least influence the prices of many goods used by companies and individuals around the globe. Changes in commodity prices can affect entire segments of an economy, and these changes can in turn spur political action (in the form of subsidies, tax changes or other policy shifts) and social action (in the form of substitution, innovation or other supply-and-demand activity).
Most buyers and sellers trade commodities on the futures markets because many commodityproducers, especially those of traditional commodities like grain, bear the risk of potentially negative price changes when their products are finally ready for the market. Futures contracts, whereby the buyer purchases the obligation to receive a specific quantity of the commodity at a specific date, therefore offer some price stability to commodity producers and commodity users.
In general, however, the liquidity and stability of the commodities markets helps producers, manufacturers, other companies and even entire economies operate more efficiently and more competitively.
Most buyers and sellers trade commodities on the futures markets because many commodityproducers, especially those of traditional commodities like grain, bear the risk of potentially negative price changes when their products are finally ready for the market. Futures contracts, whereby the buyer purchases the obligation to receive a specific quantity of the commodity at a specific date, therefore offer some price stability to commodity producers and commodity users.
In general, however, the liquidity and stability of the commodities markets helps producers, manufacturers, other companies and even entire economies operate more efficiently and more competitively.
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