How to Trade in the Indian Commodity Markets ?
The commodity market in India is over a century old, and it has on numerous occasions proven to be instrumental in maintaining a balance between the supply and demand of the traded underlying commodities.In 2003, formalised online trading through regulated platforms was made available for retail investors.All an investor has to do is open a commodity trading account and a Demat account to start trading listed commodities.
In this blog, we will discuss how to trade in the Indian Commodity MarketsWhat Is Commodity Trading?
Before learning how to trade in commodity markets, let us get a brief idea about the fundamentals of commodity trading. Commodities are the tradable physical resources/raw materials used to produce usable/final goods.
Commodity trading differs from trading traditional securities such as equities or bonds and offers additional portfolio diversification benefits and acts as a hedge against inflation. Commodity prices most often move opposite to stock prices. Hence, it is beneficial to trade in them during market volatility. Apart from that, there are other advantages to commodities trading.
In India, there are two main ways to trade commodities. Commodity trading happens on either spot markets or derivatives markets. Producers, manufacturers, wholesale traders and individual investors participate in these markets. Within these markets, a number of commodity exchanges facilitate commodity trading.
What Are the Types of Commodity Markets?
While learning about how to start commodity trading, it is essential to know about the types of commodity markets. The following is a description of these markets:
Spot Markets: physical commodities are traded on spot markets which are also popularly known as ‘Mandisa.’ Medicare physical markets where buyers and sellers meet in person to decide on transaction prices, arrive at mutually ideal transaction terms and transact.The prices at a Mehndi are majorly determined by the supply and demand of the underlying commodities. Also, the trades are made mainly in cash, and delivery is usually immediate.
Derivative Markets: Derivatives like futures and options are financial instruments that derive their value from underlying assets such as commodities, stocks or indices.
Futures are standardised contracts in which transactions occur at a specified price on a pre-decided future date. The physical delivery of commodities rarely takes place in this case. Transactions are usually cash settled. Several traders prefer derivatives over spot market transactions since derivatives only facilitate profit and loss rather than actual exchange of physical goods.
How to Trade in the Indian Commodity Markets?
The commodity markets in India have been regulated by SEBI (Security & Exchanges Board of India) since 2015, when Forward Markets Commission (FMC) merged with it. Today, there are two exchanges which facilitate commodity trading.
Before trading, you must have a Demat account with a regulatory body such as Central Depository Services Limited (CDSL) or National Securities Depository Limited (NSDL). You can use this account to trade in any of the National Commodity Exchanges. Additionally, you will require a broker-linked trading account linked to your Demat account.
There are two main commodity exchanges in India and these are as follows::
- Multi Commodity Exchange (MCX)
- National Commodity & Derivatives Exchange (NCDEX)
Commodity trading is primarily based on supply and demand on account of this prices tend to keep fluctuating throughout the day. The immediate price of a commodity is known as its spot price. Commodities are sold in lots, which means one must purchase a minimum amount first and then in multiples of the set minimum amount.
Let us understand how trading on the commodity market works with an example.
Suppose you purchase a futures contract for a commodity on MCX at ₹50,000, and the margin is 10%. you will pay ₹5,000 for the transaction. Suppose the following day the value increases to ₹53,000. Then, ₹3,000 will be credited to your bank account. However, if it drops to ₹ 52,000 the following day, ₹1,000 will be debited from your linked bank account.
Commodity trading has some risks associated with it and the allied market fluctuations add to these risks..
How to Begin Commodity Trading?
The following are the steps to follow to start commodity trading.
Step 1: Getting Familiar with the Market
Before you start trading commodities, you must be clear on the basics of commodity trading. It is vital to know about the economy, commodities and the commodity markets as well as to equip yourself with the required analytical skills prior to starting off.It is also necessary to be aware of the various commodity exchanges present in India. The most popular exchanges in India are MCX and NCDEX.
Step 2: Choosing an Efficient Broker
Choosing a reliable broker is the next important step. When choosing a broker, you should consider the broker’s experience, fees, trading platform and other services provided (If any). Top brokers help traders make sound trading decisions through regular comprehensive recommendations. It is prudent for a Broker to be registered under SEBI (Security & Exchanges Board of India).
Step 3: Opening a Trading Account
To begin investing, you must open a Demat account and a trading account. Your broker will analyse the information you provide on the application form and then decide on the status of your Demat account. They will consider factors such as trading experience, risk appetite, financial status, etc.
Step 4: Making an Initial Deposit
After the trading account has been approved, you need to make an initial deposit to start trading. This is usually 5 – 10% of the contract value. Suppose the value of a commodity transaction is ₹60,000, and the initial margin is 10%. Then, you would have to deposit ₹6,000 to secure the trade.It is prudent to note that adverse market movements might increase the quantum of margin requirement.
Step 5: Devising a Trading Plan
The last step is to create a trading plan in line with your individual trading and investment goals. You must analyse your financial capabilities, investment goals and risk appetite to create a trading plan. Plans differ from trader to trader since one size does not fit all. Your broker may also provide valuable advice for you to create your plan.
What Are the Different Ways to Trade in Commodities?
While learning about how to trade in commodity markets, knowing the various methods you can invest/trade through is crucial. Here are the primary techniques :.
- Direct Investment: Commodities such as gold and silver can be purchased physically. this comes with high costs and the burden of storage . It is usually considered as a good option only for high-value commodities.
- Futures Contracts: Future contracts are a popular method of trading/investing in commodity trading. It is a contract between two parties to trade the underlying commodity at a fixed price on a date in the future. For futures, the contract writer has an obligation to carry out the specified trade and the buyer has a right to choose on whether or not to carry out the underlying trade.
- Commodity Shares: It is also possible to invest in stocks of companies that deal with commodities. For instance, you can invest in an energy or gold company’s stocks. it is less risky than directly trading the commodity due to the underlying risk being distributed to all the stakeholders of the company.
- Mutual Funds Based on Commodities: Commodity mutual funds invest in commodity ETFs. The advantages they offer over regular commodity trading are enhanced diversification and liquidity.
- Commodity ETFs and ETNs: ETFs (Exchange-Traded Funds) and ETNs (Exchange-Traded Notes) are passively managed funds. They invest in physical commodities and futures on a real-time basis.
This blog will give you a better idea on how to trade in commodity markets in India. You can get started by creating a Demat and trading account and making the required initial deposit. It is essential to keep an eye on the markets and prices of commodities when trading. It is also equally important to choose a good broker who offers sound financial advice, proactive service and charges low brokerage fees.
Frequently Asked Questions
What are some reasons to invest in commodities?
Commodity trading helps to diversify your investment portfolio and balance out risks associated with equity trading. It also acts as a hedge against inflation.
Which exchange should I select for trading?
The MCX (Multi Commodity Exchange) or NCDEX (National Commodity & Derivatives Exchange) are popular exchanges where you can start trading commodities.
What are some skills commodity traders require?
Commodity trading requires a good knowledge of supply-demand economics, market analysis skills, strong decision-making skills, patience, and tenacity.