How commodities are traded

Presentation on theme: "How commodities are traded"— Presentation transcript:

How commodities are traded

Methods

1. An individual 

trading account

 opened:

directly with a

futures

commision

merchant

indirectly through an 

introducing broker

2. A 

managed account

:

is given to someone a written power of attorney to make and execute decisions about what and when to trade. They will have discretionary authority to buy or sell for your account or will contact the client for approval to make trades,

it can be hired a commodity trading advisor for a fee. The commodity trading advisor is an individual or a firm who provides individualized advices related to commodities trading.

3. Through commodity pools (limited partnerships)

4. Through commodity-related mutual funds

The Trading Account

A trading account is similar to a traditional bank account, holding cash and securities, and is administered by an investment dealer.

The account is held at a financial institution and administered by an investment dealer that the account holder uses to employ a trading strategy rather than a buy-and-hold investment strategy.

Individuals and businesses can open trading accounts to execute trade transactions involving buying and selling commodities.

Individuals who are qualified as non-professionals can open retail trading accounts.

Business entities are qualified as professionals. Professional status incurs higher market exchange data fees and can also incur higher commission rates.

Commission rates may include a flat fee per trade or a per-share fee depending on the brokerage firm

The Trading Account

Investors can open trading accounts online or at a brokerage office. An investor could open multiple accounts for different purposes.

Trading accounts are usually associated with day trading.

Day trading carries the risk of complete loss of investment or more. The largest risk tends to stem for the use of margin.

Day trading margin for non-IRA (non

Industry Regulatory Authority

) accounts is usually leveraged at four-to-one during market hours

=

only 25% of cash would be required to purchase or short a marginable stock.

Individual brokerages may apply margin restrictions on specific stocks due to volatility and short interest.

It is very important for a trader to double check the maintenance margin requirements on the stocks that they are trading in the account. 

The Trading Account opened directly with a

futures

commision

merchant

A futures commission merchant (FCM) is a merchant involved in the solicitation or acceptance of commodity orders for future delivery of commodities related to the futures contract market. A futures commission merchant is able to handle futures contract orders as well as extend credit to customers wishing to enter into such positions. These include many of the brokerages that investors in the futures markets deal with

In fact is a brokerage or merchant firm which buys and sells futures contracts for customer accounts. Is named also commission house. A commission house generates income by charging a commission on the transactions that are made on behalf of the customers.

Services might include transactions such as buying and selling bonds, stocks or commodities. More specifically, a commission house gets paid for executing orders, arranging settlement, or servicing margin accounts on behalf of their clients. They typically use omnibus accounts to do this.

The Trading Account opened indirectly through an 

introducing broker

An introducing broker (IB) is a futures broker who has a direct relationship with a client, but delegates the work of the floor operation and trade execution to another futures merchant. The merchant firm is usually a close partner of the IB.

This is done to increase efficiency and lower the work load for futures brokers. It allows the IB to focus on the client while the futures merchant focuses on trading floor operations.

The Managed Account

A managed account is an investment account that is owned by an individual investor and overseen by a hired professional money manager. 

Managed accounts are personalized investment portfolios tailored to the specific needs of the account holder.

A managed account may hold assets, cash or title to property for the benefit of the client. The manager may buy and sell assets without the client’s prior approval, as long as the manager acts according to the client’s objectives. Because a managed account involves fiduciary duty, the manager must act in the best interest of the client, or potentially face civil or criminal penalties.

Managed accounts help diversify an investor’s portfolio. Pools of money are invested over a variety of securities that are actively managed by professional managers.

With a managed account, the investor puts in money, and the manager purchases and places physical shares of securities in the account. The account holder owns the securities and may have the manager sell them as desired.

With a managed account, days may pass before the manager has the money fully invested. Also, managers may liquidate securities at specific times only. 

When owning a managed account, the manager may attempt to offset gains and losses by buying and selling assets when it is the most tax-efficient time to do so. This may result in little or no tax liability.

The commodity pools

 (limited partnerships) = Managed futures funds

A private investment structure that combines investor contributions to be used in the futures and commodities trading markets.

The commodity pool, or fund, is used as a single entity to gain leverage in trading, in the hopes of maximizing profit potential.

The title "commodity pool" is a legal term as set forth by the National Futures Association (NFA).

 Commodity pools in the United States are regulated by the Commodity Futures Trading Commission (CFTC) and the National Futures Association, rather than by the Securities and Exchange Commission, which regulates other market activity. 

Commodity pools are similar to mutual funds in that the investors' assets are pooled in order to make trades that would not be possible for each individual investor. The investor's risk is limited to the amount of his or her contribution to the commodity pool.

Many hedge funds – private pools of activity managed capital – are commodity pools, and are registered with the Commodity Futures Trading Commission as commodity pools and Commodity Trading Advisors (CTAs).

Commodity-related mutual funds

A mutual fund is an investment vehicle made up of a pool of moneys collected from many investors for the purpose of investing in securities such as stocks, bonds, money market instruments and other assets. Mutual funds are operated by professional money managers, who allocate the fund's investments and attempt to produce capital gains and/or income for the fund's investors. A mutual fund's portfolio is structured and maintained to match the investment objectives stated in its prospectus.

C

ommodity

I

ndexes

Two of the most common commodity indexes are:

Goldman Sachs Commodities Index (GSCI)

Dow Jones-USB Commodity Index (DJ-USBCI)

The major distinction between the two indexes is that the GSCI uses a strategy of overweighting the appropriate commodity sector (e.g., energy, metal or agriculture) based on economic demand.

The DJ-USBCI on the other hand relies on both production and liquidity in determining weightings but has stricter guidelines on the maximum percentages allowed in one particular sector. 

C

ommodity

I

ndexes

- GSCI

Is a composite index of commodity sector returns, representing an un-leveraged, long-only investment in commodity futures that is broadly diversified across the spectrum of commodities.

The quantity of each commodity in the index is determined by the

average quantity of production in the last five years

of available data.

When used as an economic indicator, it will assign a weighting to each commodity in proportion to the amount of that commodity flowing through the economy.

C

ommodity

I

ndexes

: DJ-USBCI

Is designed to be a highly liquid index that represents fairly the importance of a diversified group of commodities to the world economy.

To avoid overexposure of a particular commodity, the index does not allow any related group of commodities (e.g., energy, precious metals or grains) to make up more than 33% of the index.

This forbids a disproportionate weighting of any particular commodity or sector which could negate the concept of a broad-based commodity index and thereby increase volatility.

References

Commodities Trading: An Overview, https://www.investopedia.com/investing/commodities-trading-overview/