Commodity trading can reap rich returns but might be very risky if you know nothing about the commodity that you are investing in. Here is a primer
Commodity investing can reap rich returns but might be very risky if you know nothing about the commodity that you are investing in. This is because every commodity has its own unique factors that determine the way prices move. Also, since commodity investing is complicated, brokers might hoodwink you if you remain in the dark. That is why you need to do some due diligence in order to ensure that you stay on top of your investment. Here are the four most important points that you need to understand when you invest in commodities.
Choosing the right broker is very important, especially when investing in commodities. This means that you shouldn’t choose a broker just because he is offering the lowest brokerage. There are a large number of brokers and it’s not easy finding honest ones among the crowd. But there are a few things you could look at.
The first one is whether he keeps giving advice on buying and selling. A broker is supposed to only execute your trades and not provide advice. You must take advice from a financial expert for investments. Also, the broker is not supposed to choose the exchange on which you should trade. So, if a broker says he will help you trade or chooses an exchange on your behalf, you could safely stay away from him.
The other important factors when zeroing in on a broker include pan India presence, level of experience in commodity trading, registration details, product offerings and trading platform. A broker having an all India presence would have better systems and processes in place. Also, a broker having multiple years of experience in trading commodities would show better results than one who has just started offering the service.
Check if your broker is registered with the appropriate authorities for trading in commodities. You also need to ensure that broking is their primary business. You wouldn’t want them to sell you unrelated products you don’t need. The trading platform is also crucial. The trading platform offered by the broker should be easy to navigate as well as quick to transact. Choosing the right broker would help you stay in control of your investment.
Once you are done with choosing your broker, you must gather basic knowledge on the commodity that you are investing in.
Demand has a direct impact on prices and you need to understand how demand for your commodity works. For instance, gold demand is higher during recessions or unrest and hence prices might move up. Another example would be metals like steel. Developments in the construction sector have a direct impact on the demand for steel. Find out about the factors that affect the demand for the commodity that you want to invest in and keep track of the factors to see if they change.
Just like demand, supply also has a direct impact on commodities. Commodities such as gold and other metals that need to be extracted are dwindling in supply unless the sold ones can be recycled. So the recyclable commodity supply would also have an impact. However, the supply of food products or crops such as cotton would be able to adjust themselves to demand situations better than metals. This is because of their lower fixed costs and the ability to better predict factors that might affect supply. As you know lower supply implies higher prices.
This is, of course, the most important factor to be considered before you invest. You should sit down with your financial expert and analyse the trend in commodity prices. Take the charts to see 10-year, 5-year and 3-year trends. Check the peaks and troughs to note seasonality. See where the price of the commodity is when placed in these charts. You should get an idea whether it is a good time to buy or sell the commodity. Also, take into account future trends in demand and supply. For instance, a likely slowdown in monsoon rains could affect crop supply. So, it is important to keep a holistic picture in mind before investing in commodities.
Whatever you do, remember that it is your money. You must know what is being done with it and you have the right to question where it is going. Never execute any investments based on any tip or advice of a non-expert. And always consult your financial planner for its fit in your portfolio.
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