Learn about the history of the commodity markets, basics of what is commodities trading, how to get started trading commodities and dive into more advanced commodity trading strategies.
A commodity futures contract is an agreement between a buyer or end user, and a seller or producer to make or take delivery of a Commodity or Financial Futures contract of an Exchange traded contract of a specific size, grade and quality at an agreed upon price for a specific date in the future. Commodities are bought and sold, therefore they are traded. The exchange where the contract is traded is between the two parties and guarantees the transaction is honoured by those involved.
Many of those in the investment world are well-versed in Stock and Bond investing, but when it comes to Commodities investing many of those individuals are not clear as to what Commodities are, even though they come in contact with Commodities on a daily basis to power our vehicles and our bodies as well as providing clothing and shelter.
Most people use or consume commodities on a daily basis, yet when it comes to investing or trading, they ask, "What are commodities trading?"
The short description is that commodities are the raw materials, ingredients or components of almost everything we consume or use in our everyday life. Some of the most actively traded commodity trading futures are: corn, wheat, soybean, gold, silver, copper, oil, gas, cattle, sugar, coffee, hogs, cocoa, and cotton.
Commodities trading began in the late 1800's with floor trading of traditional agricultural commodities such as grains, livestock, butter and eggs. Initially, the transactions rarely involved futures contracts because at the time, commodities were traded as soon-to-be consumed goods. As the market place evolved, it expanded to include financial contracts such as government-backed securities, foreign currencies, metals, energies and equity indexes. The term "commodity trading futures" addressed the mix of contracts traded on the present day exchanges, all of which are also traded electronically.
What appeared to be unbridled chaos on the trading floor, or pits, as price discovery and transactions were conducted via open-outcry, gave way to electronic trading - the matching of bids and offers by exchanges such as the Chicago Mercantile with its ground breaking clearing mechanism, called Globex.
The need for controlling risk for farmers, ranchers, bankers, multi-national corporations, even the Federal Reserve Bank and the Treasury Department themselves has grown along with the role of the speculator to absorb that risk and provide much needed liquidity to the marketplace.
It used to be that pit traders enjoyed an edge by standing where price discovery was happening. The evolution of electronic trading - "trading from the screen" - has leveled the playing field. Prices emanating from completed trades are now being relayed by clearing systems such as Globex or ICE with the banker in Chicago, farmer in Brazil or the speculator in Dubai. They all now receive data at close to equal speed. Before the advent of the computer and electronic trading, you had to be on the trading floor, in a broker's office or glued to your phone calling your broker to buy and sell. Now, however, you can trade with software on your computer, on the internet from the comfort of your home or from an application on your cell phone while sunning on the beach. And yes, if you prefer, you can still call a broker on the phone and have him place your trade for you.
Once one understands how commodity trading can be a viable investment vehicle, an understanding of various commodity trading strategies is paramount to identifying opportunities when they present themselves, while noticing the level the of risk.
The two primary approaches to Commodity Trading are either fundamental or technical analysis.
Since most commodities are agricultural such as grains, livestock and softs (cotton, cocoa, orange juice, coffee and sugar (with the Energies being an exception), there are cycles that they go through as they go through the growing year or life cycle and can be traded in a seasonal strategy. These seasonal tendencies, along with supply and demand analysis, make up some of the Commodity Fundamentals traders use to identify potential opportunities while acknowledging that even seasonal tendencies can be unreliable and move counter seasonal.
Then there are those traders, who while they may be aware of some of the commodity trading fundamentals, still rely on commodity charts and patterns that form. Commodity technical traders usually use indicators such as moving averages and overbought-oversold indicators for confirmation of signals that price charts are reflecting. There are a plethora of indicators that commodity traders can choose from and some traders use them solely for buy and sell signals and are used extensively in Algorithmic trading.
Whether the Trader is trading commodities technically or fundamentally, there are several basic approaches and commodities trading strategies.
One popular approach is day commodity trading, where a trader closes out all trades that have been made during the time the commodity trading markets are open, but before the close. Day Traders use short time frame charts and indicators looking for short, quick profits without risking much capital. Charts comprised of 1-min., 5-min., 10-min. and/or 15-min. price intervals are commonly used.
Another shorter term approach to commodity trading is swing trading, which can still be a Day Trade but with a slightly longer life span, using 30-min. or 60-min. charts and usually looks for the trend for the day and tries to, in the case of an uptrend for example, buy the dips and sell the rallies and might be in each trade for an hour or two, to a few days.
One of the oldest approaches to commodity trading is the position or trend trade where the trader is in the market trying to catch a trend that can last days, weeks and even months.
One of the most overlooked commodity trading approaches, used not only in the commodities trading but in other assets, is called spread trading. This is where you buy one contract and short another simultaneously. With this strategy the trader is looking for the difference in price between the buy-side and the sell-side to widen or narrow in his favor. There are inter-commodity trading spreads such as buying one contract month of a commodity versus selling a different month of the same commodity, for example: buying May Corn and shorting December hoping that the price of May Corn gains on the December Corn price. The other type of spread is called an intra-commodity trading spread where the trader buys one commodity and sells a different but related commodity. For example buying the 30-year Treasury Bond and shorting the 10-year Treasury Note.
Trading options on futures is another method of futures commodities trading. Options can be used to play the long or short side of the desired market. Put Options are used for downside intentions and Call Option are used for upside or long side intentions. Buying options can limit your risk to the premium paid for the option and commissions. Selling options is more risky because the loss is not limited to the cost paid for the option. There are many complex strategies of trading options on futures including buying and selling options at different strike prices and more.
There are several ways to invest in the Commodities Market. Whether you wish to make your own decisions and be what is called self-directed, work with a licensed Series 3 broker, find an automated system, where the trades are placed for you or have your account personally managed by a money manager there are some important steps to take. The National Futures Association has a website where you can if there are any serious infractions that involve the Broker you are contemplating doing business with.
Once you are comfortable with who you are talking with you need to decide how much "risk capital" to allocate to this investment because losing it should in no way impact your lifestyle. Remember, this is a highly leveraged, speculative investment regardless of who is trading the funds and deciding what level of service you choose to go with should be the next decision you make.
After e addressed these considerations, the brokerage office you will be interacting with, will supply you with the funding instructions which will go to the account of the Futures Clearing Merchant or "FCM" that your broker uses to execute your trades. The FCM will then deposit your funds at whichever bank they do business with. There the funds are kept segregated, in your name, and drawn upon as needed by the FCM as needed.
With your approved Futures account application completed, by you and approved, you with be issued an account number that will be referred to whenever a trade is placed.
You will then be emailed a daily account statement every evening that shows existing open trades, if you carry trades overnight as well as any new activity or trades from the prior day that have been entered or closed out. It is a very detailed report that also shows any fees charged, margin requirements, both excess margin or deficits, and liquidating value which shows you what your account is actually worth if you have no positions in the account or if you have positions in the market what the accounts market is if those positions where liquidated at their current value minus any exit fees.
Demo Trading, also known as simulated commodities trading, paper trading, playing with Monopoly money; whatever you'd like to call it, an online futures commodity trading platform demo can be your best friend or your your worst enemy for beginner to intermediate commodities trader. Get your fills by knowing the ins and outs of your commodity Trading Demo.
"A treatise to Demo Traders”, on behalf of Commodities brokers everywhere.
Demo Trading. Also known as simulated commodities trading, paper trading, playing with Monopoly money; whatever you'd like to call it, a demo can be your best friend or your worst enemy. Every Futures commodities broker dreads having this conversation with their clients, as it is necessary with every new trader; however, much to a broker's chagrin, every new trader will say that they already understand when in fact they rarely do. Let me assure you, if you're a new or even intermediate commodity trader, you probably don't. You may understand one popular issue of the conversation but odds are if you have been paper trading for five years waiting to be "successful" or to "understand the futures commodities markets" in the simulated world before moving on, you have less of a chance of being successful in the live futures markets because you're setting yourself up for failure (if you ever do, in fact, trade in the live markets). You should seriously consider speaking with a licensed commodities and futures broker before diving in.
For the uninitiated, demo trading is the practice of trying out an online commodity trading platform on a simulated basis—in a free demo trading account, you’re granted simulated funds, you’re placing simulated orders in the markets and you’re shown simulated profits and losses on what your trades might have done for you if you were futures commodity trading on a live platform with live funds. First and foremost, it's a wonderful technological tool for testing out a platform to see if it will suit your commodities trading methodology. It can also be used to try different trading strategies, but problems arise when one equates simulated commodities trading too much with live futures trading.
No matter how many houses you can afford to build on Pennsylvania Avenue with your simulated money and no matter how many rail roads you've had to mortgage to pay the rent, the hypothetical results you've attained in your simulated trading do NOT, and never will, indicate future results in the live markets or any markets for that matter (thanks for reading through the board game references, I'll keep it to a minimum from now on). Between misplaced expectations, developing an inability to adapt and false expectations of profits that you've earned paper commodity trading, you have set yourself up for an even more uphill-battle than you were originally up against.
To clarify before moving on any further in this post, I want to be very clear about a few things:
The first issue many traders already know about is the false sense of security with your fills. The idea of a limit order is first in, first out. Take a moment. First in, first out. It's the golden rule of live trading, and it's a lesson you're never going to learn in simulated commodities trading. Do not be "that trader" that is confused as to why it's taking so long to get filled once you start your live trading. It is not your platform, it is not your broker, it is not the data feed; it is the lack of fantasy fills you have been provided on a demo. And no, apologies to the automated commodity trading strategists, but you're included in the conversation as well: you could be testing your strategies on market replays of historical data on our platforms and getting unrealistic fills.
In the simulated world, your limit orders are likely to get filled as soon as the market touches your price. For example: if you're trying to go long a contract on a buy limit order and your entry price becomes the bid, a simulated seller may instantaneously take the other side of your contract; however in a live market, you're going to have to get in line behind all the rest of the orders placed before yours waiting to be filled. In less liquid markets you may not notice as much of a difference as there may not be too many people in front of you; however, in more liquid markets such as the popular e-mini indices or the interest rates, you will notice quite a difference when the market keeps bumping against your price without filling your order. Only when the market passes THROUGH your price are you guaranteed a fill on a limit order in the live markets. This makes your hypothetical demo results much more difficult to interpret and sometimes impossible to trust.
Now on to the subtler and often misunderstood aspect of demo trading.
By solely trading on a demo platform for months and months on end, you can easily get used to this alternate trading reality making it extremely difficult to adapt to a live environment. You will never be able to simulate the emotions associated with gaining and losing money in the markets, and therefore you won't know how to contain said emotions until you experience them first hand. It's easy to accept your losses and move on when you're playing around with fake money, but you will start questioning every aspect of your commodity trading by the time you hit the real markets and lose money for the first time.
It could take futures traders months or even years to finally understand that even though they might have made hundreds of thousands of dollars on a demo account, it can easily translate to losses in the real markets. The difficult part of it all is traders rarely blame themselves; as mentioned before, they can target the platform, brokerage firm or data feed, when in fact they might all be working and doing their jobs just fine. In any case, commodities traders can set themselves up for unrealistic expectations for the markets and never see their visions come to fruition.
Beginning traders can leave the markets angry and frustrated when of course the markets provided plenty of opportunities on both sides of the market for risk and reward alike. Paper traders will consider themselves experts of the markets and in fact they may be able to recognize a head and shoulders pattern forming from a mile away, but when it comes to controlling losses or calling it a day after achieving respectable profits on their account, they just can't quit.
When it's all said and done, paper trading can be the ultimate crutch of live futures commodities trading. For traders going back and forth between the two, they can gain a respectable balance of adjusting their commodity trading strategy while still keeping in touch with the fill-reality of the live markets. If you're going to base your commodities trading success on how you've done in the simulated markets, though, you need to take a step back from the screen and have a serious conversation with a broker here before you dive in. While other brokers might get flustered and be unwilling to educate those who need it, our brokers are always happy to step in—that's the Cannon Trading difference.
Trading Futures, Options on Futures, and retail off-exchange foreign currency transactions involves substantial risk of loss and is not suitable for all investors. You should carefully consider whether commodity trading is suitable for you in light of your circumstances, knowledge, and financial resources. You may lose all or more of your initial investment. Opinions, market data, and recommendations are subject to change at any time.
This is not a solicitation of any order to buy or sell, but a current market view provided by Cannon Trading Inc. Any statement of facts herein contained are derived from sources believed to be reliable, but are not guaranteed as to accuracy, nor they purport to be complete. No responsibility is assumed with respect to any such statement or with respect to any expression of opinion herein contained. Readers are urged to exercise their own judgement in trading!BROKER NOTES:
It should be noted that this list was compiled based on the AVERAGE rankings by the senior brokers here in the office. Therefore, it should be noted that there are differences in opinion, ESPECIALLY on the position of the "Factory Orders" and "Philly Fed Survey", which some believed should be switched around. Feel free to comment, phone in or email us your questions or concerns. We're happy to get into a discussion about any of these events and how they affect the markets.Source for definitions: Econoday
* Please note that the information contained in this letter is intended for clients, prospective clients, and audiences who have a basic understanding, familiarity, and interest in the futures markets.
** The material contained in this letter is of opinion only and does not guarantee any profits. These are risky markets and only risk capital should be used. Past performances are not necessarily indicative of future results.
*** This is not a solicitation of any order to buy or sell, but a current market view provided by Cannon Trading Inc. Any statement of facts herein contained are derived from sources believed to be reliable, but are not guaranteed as to accuracy, nor they purport to be complete. No responsibility is assumed with respect to any such statement or with respect to any expression of opinion herein contained. Readers are urged to exercise their own judgement in trading!