Price fluctuations on a raw material can be caused by a variety of things, depending on the raw material in question and where the raw material is being sourced from. If a raw material is coming from a specific geographic region that suffers from political strife or instability, it’s possible that a work stoppage could cause a decrease in the availability of the raw material and thus a rise in price.

Risks associated with trading in commodities include:

Counterparty risk: This risk arises when one party to the contract does not honour the contract and fails to discharge the obligation.

Market integrity risk: This happens because of price rigging, cartel operations, and cornering of the market to create artificial price rise or fall.

Operational risk: This may arise due to internal processes, systems, technology, etc.

Legal risk: Commodity trading is subject to various acts and regulations such as the Essential Commodities Act, FSSAI standards and various tax laws. Any change to these legal aspects will lead to unexpected movement in the commodity market.

Systemic risk: This may arise when default by one party leads to default of other parties. However, these risks can be managed efficiently and effectively because of strong risk management policies adopted by exchanges and member brokers.

In the analysis of commodity markets, little attention is paid to the fact that commodity exports from developing countries form inputs into the processing and retailing sectors in developed countries. If these industries were generally competitive, this distinction would matter little for commodity markets which could be reasonably treated in isolation from the downstream sectors into which raw commodities enter. But the observation that these sectors are typically characterized as highly concentrated (and increasingly so given the large number of mergers and acquisitions in recent years), raises specific challenges for those interested in commodity market issues. Specifically, the issue of commodity exports constituting part of a vertically-related chain has important implications for how we deal with policy issues associated with commodity markets and has particular reference to the impact of globalization on developing country exporters and the potential benefits of further trade reform.

The purposes served by a commodities exchange depend in part on the nature of the specific contracts that are traded. By simply centralizing trade in a certain commodity, an exchange can facilitate title transfer, market transparency, and price discovery. Transaction costs are reduced because coordination through a centralized exchange can reduce costs associated with identifying market outlets, physically inspecting product quality, and finding buyers or sellers.

By reducing transactions costs and enhancing the flow of information, an exchange can improve returns to market agents while reducing short-term price variability and spatial price dispersion. Such contracts offer little capacity to address inter-annual price uncertainty, but more sophisticated contracts allowing exchange in futures can enable further risk management. Such futures contracts, however, require a highly developed institution and cannot maintain spot within desired bounds.

It is possible to organize an exchange around an auction floor in which physical goods are traded. In Africa, many such auction floors dealing in export commodities have operated for many decades. These auctions floors lower search costs for participants and may reduce market thinness and consequent price volatility, but they also impose costs for transportation and warehousing and offer little or no services for price risk management or financing. Recent efforts by developing commodity exchanges have attempted to move beyond auction floors to trade in fungible contracts that can be used as price-hedging devices.

Typically, commodity trading occurs either in derivatives markets or spot markets.

Spot markets: are also known as “cash markets” or “physical markets” where traders exchange physical commodities, and that too for immediate delivery.

Derivatives markets: in India involve two types of commodity derivatives: futures and forwards; these derivatives contracts use the spot market as the underlying asset and give the owner control of the same at a point in the future for a price that is agreed upon in the present. When the contracts expire, the commodity or asset is delivered physically.
The main difference between forwards and futures is that forwards can be customised and traded over the counter, whereas futures are traded on exchanges and are standardised.

The world's first commodities arose from agriculture practices (crop production and raising livestock). Archaeological discoveries indicate that agriculture developed around 10,000 BC, as humans began settlements and farming. An agricultural revolution started around 8,500 BC, which led to trading commodities between settlements.

In the US during the early 1800s, agricultural commodities – notably grains – were brought from Midwest farmlands to Chicago for storage until being shipped out to the east coast. The first American exchange was set up in 1848. It was called the Chicago Board of Trade (CBOT). This group of brokers established a more efficient, standardized method of exchanging goods and payment by creating futures contracts. Instead of managing numerous customized contracts between interested parties, they streamlined the process of buying and selling future delivery for a present price by generating contracts that were identical in terms of quality of the asset, delivery time and terms.

For over 100 years, agricultural products remained the primary class of futures trading. The CBOT added soybeans in 1936. In the 1940s, exchanges included trading for cotton and lard. Livestock was added to the trading "block" during the 1950s.

During the 20th century, exchanges opened up all over the United States. Cities such as Milwaukee, New York, St. Louis, Kansas City, Minneapolis, San Francisco, Memphis, New Orleans and others hosted trading, but Chicago remained the most influential location for commodities futures trading.

In the early 21st century the advent of the online trading systems led to heightened interest in commodities and futures. From the comfort of home or office, buyers and sellers can place orders through electronic trading systems and online brokerage houses. Easier access and increased information sharing led many to pursue careers in futures trading.

Just like stock prices, commodity prices also fluctuate based on multiple factors. The key factors that affect the commodity prices in the market are as follows:

Market demand and supply: The demand and supply of the commodities in the exchange play a major role in determining the commodity prices. When there is a higher demand for a commodity in the market, as compared to its supply, its price goes up, and vice versa.

Geo-political factors: Global and political factors play a crucial role in the determination of commodity prices in the country. For example, during any turmoil in the Middle Eastern countries, we may see major fluctuations in the prices of crude oil as the prices at which it is exported will be affected.

External factors: External factors like the weather can also affect the demand and supply of commodities, thus affecting their prices. For example, during winters, the cost of heating may rise, leading to a rise in demand for natural gas. This may result in an increase in the price of natural gas in the commodity market.

Speculation: As we discussed earlier, speculators enter the commodities market with the intention of earning profits from commodity price fluctuations without taking physical possession of the underlying asset. Any coordinated and sustained action by these speculators can also affect commodity prices. For example, if many speculators have a positive outlook on a particular commodity, they may start purchasing that commodity in huge quantities, thereby increasing its price.

Commodity Options: are derivatives contracts that enable the buyer (holder or owner) of the instrument the right to buy or sell the underlying futures. Unlike stock options, which are based upon shares, commodity options are based on the future contracts. So the buyer pays the seller a premium to acquire the options contract. The buyer then has the right to exercise the option if it is profitable for him or let it expire. The buyer here therefore has the right and not the obligation. The seller on the other hand has the obligation to fulfil the contract when the buyer chooses to exercise it.

Commodity Futures: A motive to invest in the futures market is to protect a commodity's price. Futures are used by businesses to lock in the prices of the commodities they sell or utilize in their manufacturing.

Instead of speculating, the purpose of hedging is to prevent losses from potentially unfavourable price movements. Many hedgers employ or manufacture the underlying asset of a futures contract. Farmers, oil producers, livestock breeders, and manufacturers are just a few examples.

As commodities futures trade on an open market, they correctly determine the price of raw resources. They also predict the future worth of the commodity. Traders and their experts decide the prices. They investigate their particular commodities all day and every day. Each day's news and information are promptly included in forecasts. If Iran threatens to completely close the Strait of Hormuz - for example, commodity prices will fluctuate substantially based on that news.

Worldwide, there are around 54 major commodity exchanges that trade in more than 90 commodities. ‘Soft commodities’ – generally regarded as things you can eat – are traded around the world and largely dominate exchange trading in Asia and Latin America, whereas the ‘hard commodities’ – e.g. metals and energy – are predominantly traded in London, New York, Chicago and Shanghai. Energy contracts are mainly traded in New York, London, Tokyo and the Middle East. More recently a number of energy exchanges have emerged in several European countries.

The London Metal Exchange is the world centre for the trading of industrial metals – the majority of all non-ferrous metal futures business is transacted on our platforms. In 2021, 145 million lots were traded at the LME equating to $15.6 trillion and 3.3 billion tonnes notional, with a market open interest (MOI) high of 2.1 million lots. A member of HKEX Group, the LME brings together participants from the physical industry and the financial community to create a robust and regulated market where there is always a buyer and a seller, where there is always a price and where there is always the opportunity to transfer or take on risk – 24 hours a day.

The Organization of the Petroleum Exporting Countries (OPEC) is a permanent, intergovernmental Organization, created at the Baghdad Conference on September 10–14, 1960, by Iran, Iraq, Kuwait, Saudi Arabia and Venezuela. The five Founding Members were later joined by: Qatar (1961) – terminated its membership in January 2019; Indonesia (1962) – suspended its membership in January 2009, reactivated it in January 2016, but decided to suspend it again in November 2016; Libya (1962); United Arab Emirates (1967); Algeria (1969); Nigeria (1971); Ecuador (1973) – suspended its membership in December 1992, reactivated it in October 2007, but decided to withdraw its membership effective 1 January 2020; Angola (2007); Gabon (1975) - terminated its membership in January 1995 but rejoined in July 2016; Equatorial Guinea (2017); and Congo (2018). OPEC had its headquarters in Geneva, Switzerland, in the first five years of its existence. This was moved to Vienna, Austria, on September 1, 1965.

OPEC's objective is to co-ordinate and unify petroleum policies among Member Countries, in order to secure fair and stable prices for petroleum producers; an efficient, economic and regular supply of petroleum to consuming nations; and a fair return on capital to those investing in the industry.

You must be humble enough to accept that despite numerous forecasts, extensive analysis, and technical research, mistakes are bound to happen. However, a successful trader is not the one who never makes losses, but someone who anticipates such losses and accordingly diversifies his portfolio in different commodities, such that losses suffered in one set of commodities is offset by the gains attained in another set of commodities. Also, the factors that determine the price of one commodity may be very different from those that determine the price of another commodity. E.g., an economy in decline may lessen the production activity, due to reduced demand for discretionary items such as cars. This will invariably reduce the demand for crude oil, hence slashing their prices. However, the prices of wheat may be unaffected as these are essential commodities required for subsistence. Therefore, it is vital not to pin all your hopes on one set of commodities to help generate wealth in the commodities markets.