Understanding Commodity Futures Trading

Contracts to purchase or sell a certain amount of a commodity at a predetermined rate and on a specific date are commodity futures. These instruments are being increasingly used to evade risks of price fluctuation and also for speculative purposes. The parties to the contract- buyer and seller are obligated to fulfill their respective duties.

Commodities futures are usually established on physical commodities like gold, silver, grains, food items viz., wheat, corn, sugar etc.

Key factors of commodity futures are:

• Presence of a physical commodity - the specific commodity on which the futures contract is being based must exist.

• Perception of change in worth of the commodity - Usually the parties to the contract expects changes in the price of the commodity and hence fixes the rate today to benefit from the anticipated change. For ex: A buyer anticipates rise in the price of the commodity in the future and the seller expects prices to fall and both the parties enter into commodity future contract to gain from the price changes. The ultimate price paid is considered to be adequate enough for the seller to make profit and the buyer buys goods of higher worth at a lower price.

Commodity futures trading involve three basic steps:

• Contract - entering into a futures contract, which usually shall be in the form of lots of the underlying asset is the foremost step.

• Margin payment -initial margin amount either with the broker or exchange to open a position is to be deposited. The margin is a percentage of the contract value and is usually determined by the exchange.

• Settlement - The commodity futures contract is settled either through physical delivery or cash settlement. Physical delivery involves transfer of the underlying asset as per the contract terms and cash settlement entails payment of cash based on the value of the underlying asset.

Commodities futures trading is expanding to be one of the active investment avenues, however, diversification into stocks, bonds besides commodity futures can be an ideal investment strategy to mitigate risks.


To seek expert advice on commodity trading , you can consult an experienced commodity broker , who can not only guide you as per your risk acceptance but also help you to execute your orders.