Bulls Bears and Pigs

When it comes to all asset markets, bulls can make money, bears can make money but pigs generally lose money. This is particularly true when it comes to commodities. Commodities are historically among the most volatile assets. The more volatile an asset, the wider the trading range. In commodity markets, risk is a function of volatility.

Some commodities are more volatile than others are. For example, natural gas and coffee are historically very volatile.

It is not out of the ordinary for these commodities to double or half in price over short periods. Gold tends to be less volatile as the precious metal has a dual role as a commodity and a currency or means of exchange.

Those considering investing in or trading commodities have many choices to make. First, you must decide which commodities best suits your risk profile. Those with a bigger appetite for risk will chose commodities with higher volatilities. Those looking for less risk are more likely to choose commodities with narrower trading ranges. So many factors influence commodity prices. Supply and demand fundamentals are always important issues in determining price. Technical factors, charts are important in that they highlight whether other market participants are buying or selling. In some commodities, factors such as weather, politics and seasonality play an important role in the determination of ultimate price paths.

Next, you must select a vehicle. These days, in the world of raw material markets there are many choices. The futures and futures options markets, the traditional home to commodity assets, provides a great deal of leverage for market participants. This means that one can control a large amount of a commodity for a good faith deposit in futures or for a premium in options.

Leverage adds to risk in these markets. ETF and ETN products reflect price action in many commodities and these products trade on traditional equity exchanges making them easier for most investors to access. Entering futures markets requires a different set of documentation and often a different brokerage account whereas one can buy and sell ETF and ETN products in traditional stock accounts.

Once you decide upon the right vehicle for your risk profile, do lots of homework. Each commodity has a tremendous amount of research available, often free, on the internet. Information about the global oil market via API and EIA websites as well as through OPEC, the international oil cartel, provides excellent up to date statistics on supply and demand. Information on grains from the United States Department of Agriculture aids in understanding the fundamentals of the grain markets in the United States and around the world. For virtually every commodity that trades, a trade association or agency publishes valuable information for producers, consumers and all market participants.

Commodities differ from other investable assets because of their high volatility or wider market ranges. Once you are prepared to trade or invest in a commodity market, the final thing you must decide is how much risk you are willing to take and how much of a reward makes sense to expect.

It rarely makes sense, in any market to risk $1 to make less than that. Generally, as a rule of thumb, the risk that I am willing to take has to equal at least the reward I am seeking. In volatile assets like commodity markets, I often look for better odds. Risking $1 to make multiples of that as a return increases the odds that trading over time will be a profitable endeavor. Think of it this way, if your reward horizon is twice or three times that of the amount of risk you are willing to take and you are correct 50% of the time, you will wind up making money. Always go into a trade or an investment with a clear idea of how much capital you are willing to risk, how much reward you seek and stick to those numbers. If a trade goes your way take the profit you originally targeted. Commodity markets are volatile and they can turn around fast making that profit into a loss.

Remember, bulls can make money, bears can make money but pigs generally wind up losers.