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Everything you wanted to know about Commodities Spread Betting


Commodities Spread Trading

  1. Commodities were the first futures market which appeared in the 19th century and provided a regulated market place where producers, traders and consumers of raw materials could buy and sell forward, on margin, and hedge themselves against the risk of adverse price movements.
  2. All transactions take the form of futures contracts, expiring anywhere between the next mid-month and six months' time.
  3. Traditionally, investing directly in commodities required you to open an account with a commodity futures broker - this meant that you would not likely have been able to gain access to the commodities market for anything less than £10,000.
  4. Gains in commodity prices or futures are typically inversely related to the stock market, making longer term investments a great addition to a stock portfolio.
  5. The definition of a future is that it is an agreement to buy or sell a standard quantity of a specified asset on a fixed future date at a price agreed today. Futures that trade on an exchange are traded in standard quantities known as contracts. You can only trade in whole contracts when dealing on such exchanges; with bets, however, you can deal in whatever size you like, provided it is at least the provider's minimum bet size.
  6. One of the key differences between spread betting and actually trading 'real' futures is that with a traditional future contract you took out, if left to expire, would have meant that you would ultimately be responsible for the purchase and sale of those products.
  7. The delivery of futures contracts occurs on a fixed date that is known as the delivery day; for most commodities this means that on this date, money is exchanged for goods, and the goods are physically delivered. Many financial futures, such as stock index futures, are cash-settled, which means that no asset is actually transferred and instead the difference between the price of the future and the price of the underlying asset is settled in cash. All spread bets are cash-settled.
 

Spread Betting on Commodities

  1. Spread betting providers offer spread bets on a wide range of metals, oils and other commodities (oil and gold being the most popular).
  2. Spread bets on commodities futures follow the same characteristics as future bets on indices with one notable difference - the months quoted do not normally follow the more traditional quarterly cycle, i.e. March, June, September and December, this is because spread betting providers make extensive use of hedging but do not want to take delivery of the underlying assets so the spread betting contracts are settled well in advance of the delivery date.
  3. Oil and gold, although most popular aren't the only commodity markets available - in fact currently spread betting providers make more than 40 other commodity markets available for their clients.
  4. Amongst soft commodities, spread bets are offered on soyabeans, cocoa, coffee, sugar, cattle, hogs, pork bellies, orange juice, cotton, wheat, oats, corn, lumber and even potatoes. Commodity spread bets are also offered on silver, platinum, palladium, copper, aluminium, lead, nickel, zin, tin and natural gas.
  5. Commodities have a tendency to remain quite static over time, and then just when you were getting bored at the whole static nature of them, there are sudden price swings. This is because there is a limited amount of any commodity to readily deliver in the short-term, and especially in agricultural production supply cannot be turned on or off like a tap. This means that lead times can extend to 12 months or more, and crops especially are always vulnerable to disease or bad weather.
  6. The demand for commodities is also being boosted by the emergence of economic giants such as China and India. For instance demand for goods is growing at approximately 3.5% a year but the supply of land is rising by just 1%. Crop demand is being driven by a rising global population, biofuel demand and changes in diet. Also, as consumers in emerging economies eat more meat and dairy, livestock also takes up more land than grain. Industrial commodities demand also remain strong with India following China's lead with infrastructure investments.
  7. The most actively traded contract is Brent crude which trades on London's International Petroleum Exchange and acts as the benchmark price for around two-thirds of the world's internationally traded crude oil. The weather can also have an impact on oil price, at least in the short-term. For instance persistent cold weather across Europe or the US can boost demand and push prices higher.
  8. Prices for industrial commodities tend to be less volatile than for softer commodities (less prone to sudden wild moves) but there can still be significant short-term moves, for instance if a war or an industrial dispute breaks out.
  9. Make sure you understand the markets you're dealing in and don't go buying Brent crude in April just because summer's coming and demand for heating oil is likely to fall - as this is usually already factored in the price. Also, unlike the FTSE or Dow which you can translate in spread betting points, in commodities a point or a tick may not be a 1 point - for instance corn trades by the bushel, natural gas in 5 decimal places and so forth.
  10. Spread betting firms hedge extensively in the underlying futures markets in order to cover their exposure on the bets they take, but obviously do not want to take delivery of platinum or oil, for instance. For this reason, bets on futures that have physical delivery are always settled well in advance of the delivery date. This means that a bet on, say, December Silver might expire in November rather than in December.
  11. It is important to understand that spread bets are priced on futures which trade at a different price to the cash price. If we compared the cash price (aka spot price) of say silver in early March with the futures price of silver for delivery in May, we might not the prices below:

    Daily Spot Silver 2002 per ounce.
    May Silver 2010 per ounce.
    Fair value = current cash price + cost of carry.

    As you can see, the May Silver price is higher in this example than the cash price. The difference is not because your spread betting provider believes that the price is going to rise. In reality the price of a future is affected by a number of factors that take into account the cost that would be involved in holding the physical to the expiry date (the so-called 'cost of carry') as well as market sentiment.

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