Commodity trading refers to the purchase and sale of commodities such as crude oil, metals, crops, livestock and so on through regulated exchanges. In India, commodity trading is done through futures contracts and options. Commodity trading is different from other forms of trading as the goods traded in the commodity market are found to be more vulnerable to supply and demand shocks when compared to other markets. Commodity traders need to be alert and always keep an eye out for fluctuations and be ready to take immediate actions whilst simultaneously planning for the future.
If you are a beginner in this arena, you might have some trouble navigating the new waters. However, keeping the following commodity trading tips in mind while trading can help you stay afloat.
1. Choose The Right Trading Platform
In India, there are six major national exchanges-
National Multi Commodity Exchange (NMCE)
Multi Commodity Exchange (MCX)
IndianCommodity Exchange (ICEX) The Universal Commodity Exchange (UCX) Ace Derivatives Exchange (ACE) National Commodity and Derivatives Exchange (NCDEX)
MCX is the most popular and holds a larger market share out of all the other exchanges. Apart from these, commodity trading is also done on National Stock Exchange (NSE) and Bombay Stock Exchange (BSE). You can trade in these with the help of brokers like Zerodha, Upstox and 5Paisa which operate in the aforementioned exchanges. While choosing an exchange, a trader must study carefully the goods that are traded in that particular exchange since different exchanges specialize in different types of commodities. You must select the exchange that has the most experience in dealing with the commodity that you plan to invest in.
2. Understand that Commodity Trading is not the same as Stock Trading
While the two markets are both inherently speculative, almost every other aspect of trading is different for these two including the levels of risk and profitability, tricks and strategies for trading, factors influencing prices, sensitivity of items being traded to economic events, and so on. Moreover, even the jargon and language used by these two markets are different.
It is crucial to familiarize yourself with the technical terms and/or abbreviations being used like ATP (Average Trade Price), cyclical and non-cyclical commodities, arbitrage and phrases like “at the market”, etc., so as to gain a better understanding of the events occurring and be able to trade profitably. A glossary on this subject can be found on several easily accessible websites and on your chosen commodity exchange’s website too. Apart from this, reading up on how to trade using futures and options is necessary.
Just like in the stock market, it is advisable to not put all of your money into a single commodity as doing this increases the level of risk significantly. You can narrow down a few commodities that you would like to invest in and then study their movements and put in your money accordingly. On the flip side, caution must be taken to not invest in too many commodities. Owing to the volatile nature of prices of the goods traded, it can be difficult to keep track of all your investments and act accordingly on time. When this happens, your fixed level of expenditure is spread thinly over a large number of investments so even if there is a large favourable outcome in any commodity, your earnings tend to be insignificant. Averages should be preferred to extremes here.
4. Prepare Customised Plan of Action for Each Commodity
When dabbling in different commodities, remember to develop a different strategy for each commodity according to their nature. For instance, the profitable strategy that you applied while trading in gold is not necessarily going to work for a different commodity like livestock. Take into account the level of volatility of the commodity selected and take your position based on the level of volatility rather than A specialized plan helps you to decide which position you would like to take in each commodity and help earn profits.
5. Use Stop-Loss
Stop-Loss is an automated command which performs buy/sell actions for your commodities once it reaches a particular price level. It is very important to pre-determine how much you are willing to lose in case things go unfavorably. This helps you to take immediate action in case of a loss. One general suggestion is to trail your stop-loss to the Break-Even point. While this method limits your profit level, it helps prevent losses. This is recommended for risk-averse individuals.
6. Learn from Other Traders
Like a wise individual once said,”Learn from the mistakes of others.” Keep a track of the trades made by other investors, competitors and even your peers. This will help you gain valuable insight irrespective of whether they make losses or profits, since this helps you see what mistakes to avoid and what strategies are helpful whilst trading different types of commodities.
7. Learn Technical and Fundamental Analysis Methods
There are two types of analyses- technical and fundamental. Fundamental analysis refers to estimating future data based on the forces of demand and supply. On the other hand, in technical analysis, future trends are projected based on historical data and price movements. It is based on the principle of “History Repeats Itself.” While some investors stick to one type of analysis, it is recommended to have a general idea about the both of them.
Overall, commodity trading requires a specific skill set coupled with intuition and alertness. There is a reason that only highly skilled individuals foray into this kind of trading. Investing in this market has been considered to be a kind of an art form, because of its highly volatile nature. It is important to keep a clear head and pre-determine all your goals before starting to invest in this market. Developing proper strategies, having the required prerequisite knowledge, and figuring out the right time to invest are few other tips that can help you have a successful run while trading in the commodity market.
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