Commodity spreads 1: What are commodities and what is interesting about them?

I have been writing articles for my readers and commodity enthusiasts for two and half years. You will find among them a decent amount of my know-how, my practices, advice, current analyzes, etc. But you have also asked me for the complete basics. I understand that because it is difficult to find those basic ideas in such a number of articles. That’s why I have decided to create a comprehensive series of articles on commodities and spreads from the very beginning.

Today’s topic is: why did I choose commodities for trading?

Why are they interesting for me? I admit that the first thing that led me to the world of commodities was my inner feeling. What do you feel when you hear the words like coffee, cocoa, sugar, corn, orange juice. I think those are very nice things that we associate with everyday life – favorite morning chocolate milk (you can find three commodities in here – cocoa, milk, sugar), afternoon coffee with a piece of chocolate or an excellent sweet cake. In summer, cooked or roasted corn, or refreshing orange juice, salt popcorn in the cinema…

Of course, there are many other commodities. There are also wheat, soybean, cotton, meat or precious metals, etc. Commodities also include gasoline that we need every day, or oil that is part of many necessary things. Commodities are divided into groups:

• energies
• grains
• meat
• precious metal
• softs
• milk products

When I was looking for the right way to enter the world of trading, the commodities did not seem so strange to me, and I was tempted to learn more about them. This is the first reason, regarding my feelings, why commodities have caught my attention from the beginning.

Another reason is the practical side

Commodity price movements are meaningful. It’s not just a virtual derivative, share, or something. These are the real physical things that people need and there are a real supply and demand. For example, when corn is harvested in autumn, inventories increase, pushing the price down. If, on the other hand, we are in time just before the harvest (inventories are no longer large) and demand is suddenly rising, the price of corn may grow up steeply. You surely know it from your own life – when there’s a lot of something, it’s usually cheaper. On the contrary, when there is too little of something and the demand is high, the price is rising.

However the price of a commodity cannot stay out of reality for too long. The price become pressured by falling demand. When something is too expensive, people do not buy it that much. For example, we would probably buy butter for €3, but if the cost would be €10, then we will look for something else. Demand is therefore inevitably reduced when prices are too high. On the other hand, the low price is causing decreasing supply. When corn is cheap, its production will no longer pay off to farmers. There will be less corn in the end. Again, we return to the beginning – decreased stocks lead to a higher price.

You see that it makes sense and everything has its reason. When equilibrium disappears from the market, sooner or later we can expect the market forces to push it back into balance again. And that’s exactly what I like. I have always liked things I can easily and logically explain without having to think about something complicated. Commodities are therefore perfect for me.

What’s next?

In the next part of the series, I will explain how the most common commodities are traded on the commodity exchange. Then we will learn what commodity spreads are.