Commodity trading implies to buying and selling of real-world top commodities like gold (through Gold Commodity trading), silver, oil or agricultural commodities or metals etc with the help of a demat account. Traders aim to profit from the fluctuations in the price of commodities which happens constantly. The chances of a profit as well as the risks of a loss, both are due to this volatility factor of commodity trading. In order to understand these fluctuations a trader must make use of a commodity trading strategy.
To get started one has to first understand the process of commodity trading as discussed in our previous article.
Before risking any investment in commodity trading, you need to ensure that you know the inside hacks of the market. There are various commodity trading tips and tricks that most experienced traders use to turn in profits.
In order to become a successful commodity trader yourself, these 5 potent commodity trading strategies can prove invaluable !!
Strategy #1: Seasonality
Seasonality is an important factor that most inexperienced commodity traders often ignore and this is one of the most overlooked commodity trading strategies as well. This factor plays an important role in determining and predicting the prices of stocks.
As commodities are real-world items used commonly, their usage or production often varies with the seasons.
For example, in the case of heating oil, the demand for heating oil soars in the winter season and its price goes up consequently. As the demand declines in the summer, the price of the oil decreases in the summer months.
Similarly, other stocks such as grains follow a seasonal pattern as well. However, these patterns do not mean that you are guaranteed a definite profit. Often, there can be occurrences that can affect the price in a negative way than what you hoped. For example, heavy rainfall can ruin crops thereby impacting the commodity prices.
Understanding the seasonality of commodities can significantly increase your chances of predicting its price accurately. There are various commodity trading apps and commodity trading books that can help you in learning the seasonality of any particular commodity before you make an investment decision about it.
Strategy #2: Focus
This strategy may not be favored by many as it ensures a lesser diversity. If you want continuous profits in the long term in commodities, it is important to limit your focus. To be a successful commodity trader, one should focus on a single commodity or a specific segment of commodities like agricultural products.
This is one of those powerful commodity trading strategies that require you to be patient as well.
To trade in any particular commodity, you need to undertake in-depth research of the commodity. You have to study well in detail about the commodity as well as the past trends of the relevant markets. If you are trading in two vastly diversified commodities like silver and oil, it is a good probability you might become distracted from both, however some believe that it is a good option for them in order to diversify in two different sectors.
If you need diversification from a single commodity, you can start trading a different commodity in the same field. For example, wheat and soy are two commodities in the same sector so some knowledge of one can be used for trading in the other.
Example on how things work
If you are trading in wheat, you would do your homework about the supply of wheat. You try to understand the various environmental and political factors at play. One also analyses its demand in the coming time. You would consider the weather factors that would influence the future crop.
Majority of these factors might coincide with another agricultural crop, say soy. It is also dependent on the various factors like weather, political policies, etc. that are at play in the region. Therefore, you would be able to predict the trends in soy by using the same or similar principles that was used for wheat.
However, if instead of soy you were to go for a very diversified commodity, like say Crude Oil, your prior analysis of the former commodity might not work that well for you. The supply of crude oil is maintained by the Middle East and its demand is dependent on various other factors. It is a totally different area than wheat. Therefore, you would need to do a whole new set of research for crude oil and develop its own trading methods. This can cause a distraction for you, missing out on either one or both of the commodities.
Strategy #3: Fundamental Assessment
Commodity trading is inherently based on supply and demand. If the supply increases, the demand would decrease and the price would consequentially decrease as well. If the supply decreases, the demand would increase and the price would go up as well.
With this logic, you need to do in-depth research about the commodity that you are looking to invest in. When trading in any type of commodity, you need to understand its origin as well as its consumer base. All factors that influence the creation and supply of the commodity should be accounted for.
Further, the future demand for the commodity needs to be considered as well.
Take the example of soy crops. Soy crops require a lot of water to flourish. If there is an expected scarcity of water, the supply of soy crops is going to reduce drastically. This means that the price of soy is going to climb high.
Consider the situation of crude oil. For a developing economy like India, crude oil is a valuable resource. India is one of the highest consumers of crude oil and its demand is going to increase even more in the future. Talking about the supply of crude oil, it is manufactured in the Middle East. Therefore, various political factors at play there can influence the supply of crude oil.
Understanding these supply and demand factors can enable you to make considerably better trading decisions. Take note that this step involves doing thorough research. Most beginner traders make the mistake of ignoring this strategy due to the hard work and patience it involves.
Applying such commodity trading strategies in your trading is going to effectively give you long term profits. You can apply the strategy right now. Choose any commodity of your choice (probably you have already chosen!). Start researching the fundamentals of that commodity. Carefully note down its creation, factors that influence it, its demand, and every other fundamental aspect related to it.
When you trade the next time, you can take into account the research that you have done. You will begin to see how it will positively affect your trading outcomes.
Strategy #4: Scalping
Scalping is the practice of making profits from minor fluctuations in prices.
A scalper makes minor profits from small changes and exits before any loss could negate the profits that are made. In scalping, you decrease the amount of profit per trade while increasing the number of successful trades. So this cumulatively grants you minimal profits repeatedly.
Traders can generally create profits by winning just about half of the trades they make if have the winning amounts considerably higher than the losses.
However, if you are successful in scalping, you will have a high win to loss ratio of the number of trades you have accomplished. It is just that the winning amount is the same or slightly higher than the loss amount.
As scalping, as one of the profitable commodity trading strategies involves interacting with the market for a very brief time, it eliminates the risk of any adverse events. Further, these small moves are quite more occurring than larger ones. Even in a quiet market with no large disturbances, small moves keep on occurring frequently.
If you want to earn a good amount of money scalping, you will have to make hundreds of trades each day. Due to the smaller time frame involved, one-minute charts are the best option to use.
Scalping can also be used as a supplementary style if you are a normal trader. When the market gets locked down without significant movement, scalping can help create some wins in an otherwise dull environment.
Strategy #5: Breakout Trading
In breakout trading, a trader makes a move during the beginning of a trend. This stage is the point of major price moves as well as high levels of volatility. Therefore, if a trader is able to master this strategy, it can offer a good amount of profit with negligible commodity trading risks.
A breakout is an event when the price of the commodity moves below the lower or upper range for the commodity. If the price of the commodity rises above the higher value of the range, the breakout trader would go in a long position. Similarly, If the price of the commodity lowers than the lower value of the range, the breakout trader would go in a short position.
Generally, when a commodity witnesses a breakout, the volatility of the commodity rises. The prices of the commodity shift in the direction of the breakout.
Such commodity trading strategies is an vital strategy because breakouts are the points from which future trends emerge. Breakouts can lead to large price swings. Therefore, if you manage it well, it would mean that a significant profit is waiting for you.
At the same time, you have to be cautious while performing commodity trading.
Here are a few tips to keep in mind while using these commodity trading strategies
- It is highly important to note that no commodity trading strategy exists that can offer you a win 10 out of 10 times. Strategies are designed only to increase your chances of win considerably. In most cases, they reduce the risk significantly and make your investment ‘safer’.
- Commodity trading strategies takes a lot of practice to master. If you lose the first few trades while using a strategy, it doesn’t mean you should discard it. You should analyse where you are going wrong and improvise your plan according. A couple of losses in the start can lead to significant losses later on.
Conclusion
Learning successful strategies for commodity trading can help you navigate the day-to-day volatility as well as riding sustained bullish and bearish trends. To become a skilled commodity trader, you need more than a commodity strategy. You need discipline and hard work. Nowadays, one of the major challenges facing commodity traders is the US-China trade war.
The practice of buying one futures contract and selling another that is similar in nature is known as spread trading—specifically, futures spread trading. The goal of a futures spread is to profit from the change in the price difference between the two related futures contracts involved. Simply, a futures spread trader isn’t necessarily concerned with the direction of the underlying market. Instead, the trader is speculating on the relationship (spread) between the prices of the two contracts in question. Two basic futures spreads exist: the intracommodity spread and the intercommodity spread.
- Intracommodity Spread: In reference to a futures spread, there are a plethora of interpretations or meanings. However, the most commonly used spread strategy is the intracommodity spread, which is often referred to as a calendar spread. Specifically, this entails simultaneously holding a long position in one contract month of a specific commodity and a short position in another contract month of the same commodity.
- Intercommodity Spread : Don’t get intracommodity and intercommodity spreads confused. The prefix intra denotes that the spread is with the same commodity; the prefix inter indicates that the spread is between two different but related commodities. As you can imagine, due to less obvious correlation between the components of an intercommodity spread relative to those in an intracommodity spread, intercommodity spreads tend to be much more volatile and expose traders to more risk.
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