Commodity Spread Trading: What it is and Why It Matters?

A commodity can be defined as a product whose market value keeps on fluctuating on a daily basis. The market price of a commodity id directly proportional to its demand and supply. There are certain factors which influence the commodity price like economic trends, natural calamities, government policies, foreign exchange rated and the like. A commodity generally falls into any of these three categories: Energies, Metals and Softs.

Since the commodity prices have been subject to fluctuation, it becomes interesting for the investors to trade in commodities. Commodity spread trading is a strategy for making risk-less profit which gives the trader an opportunity to profit out of the difference in commodity prices. It involves simultaneous buying of one contract and selling another contract against it. There has been an increasing interest in commodity spread trading because of the boosting prices of gold and crude oil recently.

There are two types of commodity spread trading : Intra-commodity spread trading– It involve trading in same commodity between two different contract months thereby resulting to buying one month’s contract and selling another month’s contract. The profit in earned by locking-in the price difference. Inter-commodity spread trading- It involves buying a future contract of one commodity and simultaneous selling of future contract of another commodity.

The most powerful feature of commodity spread trading is that the trader needs to have only one account to trade different investment products. But it is advisable that the investors willing to trade equities and indices should have separate account for commodity-related equities and for each currency that their investments are listed in and also separate account for long and short positions. The benefit of maintaining separate account is it helps the trader in position tracking and efficient risk management.

The reason by most of the traders are tempted to trade commodities through spread trading is that it does not force them to settle their accounts on a certain date because even if the underlying contract expires it is automatically rolled over into the next near month and if there is a price difference it is debited or credited to the trader’s account depending on the current market scenario. Moreover, the profit earned is completely tax free.

Although commodity spread trading has its own benefits but is also subject to certain risk. The investor should invest his funds only up-to the limit of his loss bearing ability. It does not give the facility to use stop loss and limit orders.

Thus, commodity spread trading is one of the most emerging ways of trading now- a-days where the trader can trade on one or more commodities in different market by making strategic moves on the basis of small price differences although their profit margin is also very small as compared to other trading strategies.

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