Commodities Trading

Written by Patricia Tunstall
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A commodity is an item--coffee, grains, metals, securities, currency--bought and sold by traders registered with the Commodities Futures Trading Commission (CFTC). Commodities trading is subject to all the complications and twists of any other aspect of the financial world: futures contracts, options, hedges, speculation. Having developed from the need for farmers to have a central marketplace for their products two centuries ago, the commodities exchange is now a sophisticated, regulated trading arena.

One of the important advantages of the futures forum is that it allows various participants to transfer risk to traders who are willing to accept it. This hedging is invaluable to the market because it lowers the cost of doing business. Futures trading is highly leveraged in that a small amount of money controls assets of much greater value. If an investor is not experienced and not prepared to absorb possible losses, trading in this lively market should be the responsibility of commodities brokers.

Commodities Pools

There are several effective methods of decreasing risk in commodities trading which also apply to other markets. Stop orders are issued by a broker for a client when the commodity reaches a specified price. This maneuver could protect from loss, but it could also prevent further deterioration of profits in a falling market. One problem with this tactic is that it is not always possible for the broker to execute stop orders. In a lock limit market, in which trading in a contract is stopped because maximum levels have been reached, even the best broker may not be able to carry out a stop order.

Another method of protection is commodities pools. These are similar to mutual funds in securities in that funds from several investors are combined and traded as a single account. An investor receives profits and losses according to the amount of money contributed to the pool by the investor. Whatever arrangement an investor is comfortable with--commodity pool or single account--a commodities trading adviser (CTA) and a commodity pool operator (CPO) must be registered with the federal Commodity Futures Trading Commission (CFTC).

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