How to Learn to Trade in Commodities

Commodities trading has an attraction for many people because it offers the opportunity for large short-term profits. If you want to trade in commodities, be aware that it is a high risk form of trading that is not for the casual investor. Commodities themselves are simple--they are raw materials--gold, oil or wheat--rather than finished products. Trading in commodities is not simple. You will need to be knowledgeable about the structure of commodities markets like the Chicago Board of Trade (CBT), economic factors and government policies that affect commodities, and the nuts and bolts of finding and interpreting prices and market trends.

Instructions

1. Understand what a commodity futures contract is. When a producer like a farmer wants to reduce his risk, he will sign a contract that guarantees him the current market price when it comes time to deliver his crop. This is how all futures contracts work, whether the commodity is soybeans, silver or petroleum. Commodities traders buy and sell these contracts to make a profit based on fluctuations in the market price.

2. Know the risks. Futures contracts are traded on margin. When you buy a contract, you only put in a small amount of the total price (usually 10 percent or even less). Modest price rises can double your money, but a 10 percent fall in the price of a commodity can wipe out the money you put up.

3. Start to learn to trade in commodities by reading articles and books on the subject. Don’t get overconfident after doing a little study, though. Trading intelligently in commodities is as much a matter of practice as it is of study (see Resources below).

4. Familiarize yourself with sources of information. Successful traders rely heavily on watching market trends. Find daily prices in the newspaper, online or in financial publications like the Wall Street Journal (see Resources below). You will also need to learn to read and interpret commodity price charts.

5. Focus on one or two types of futures contracts. Market trends change when economic factors or industry conditions are altered. A decision by OPEC to change oil output affects the market, for instance. A sudden freeze in Florida can send orange juice prices skyrocketing. The more you know about a particular commodity, the better you will be able to anticipate how events will impact prices. It’s wise to initially concentrate on a few commodities.

6. Practice before you risk real money. As you learn to trade in commodities, make a habit of carrying out mock trades using real information. Futures contract trading is rapid and short-term, so it’s ideally suited to “armchair investing.” You can test your growing knowledge this way without placing your money at risk and learn from your mistakes with no harm done.

7. Open a brokerage account and begin to trade commodities. Some brokers can assist you with expert advice and resources. These “full-service” brokerage firms do charge more, but you may feel it’s worthwhile. If you prefer (especially when you have some real-world experience) you may want to save money on fees and commissions by using a discount broker. In either case, you can open an account quickly and easily (usually online) with a minimum deposit of around $1,000 (see Resources below). Making trades is simple. You can trade online or you call your broker and place a buy order. Experienced traders usually place a “stop” sell order at the same time they buy. This is an order to sell automatically at a lower price, so if there is a sudden drop in price, your losses will be minimized.