What Commodities Are and How They Work
Traded Daily on the Market Using Futures Contracts
Commodities are hard assets ranging from wheat to gold to oil. Since there are so many, they are grouped into three major categories: agriculture, energy, and metals. Agricultural commodities include:
Metals include mined commodities, such as gold, copper, silver, and platinum. The London Metal Exchange announced it would launch futures contracts for metals used in batteries starting in 2019. The exchange expects there will be a large market for such metals as the demand grows for electric vehicles.
The U.S. government defines commodities in the 1936 Commodity Exchange Act. The Act covers trading in agricultural and natural resource commodities. Although the Act treats financial products like commodities, it doesn't consider them to be commodities. The Act also bans trade in onions as a commodity, as per the 1958 Public Law 85-839 (7 USC 13-1).
How Commodities Work
Dealers trade commodities on an open exchange. That means the prices change every day. This can be difficult for the consumer, who must face price variations in everyday products such as gasoline, meat, and grains. It especially impacts poorer people around the world, who pay more of their limited income on food and transportation.
The highest volume of trading occurs in oil, gold and agricultural products. Since no one wants to transport those heavy materials, they trade futures contracts instead. These are agreements to buy or sell at an agreed upon price on a specific date. Commodities contracts are priced in U.S. dollars. That means that when the dollar's value rises, it takes fewer dollars to buy the same amount of commodities. That makes commodity prices fall.
Financials are also traded in the futures markets. These include currencies, such as the 3-month Eurodollar and the euro-FX. It also includes interest rates, such as the 10-year Treasury note. There are also futures on stock indices such as the S&P 500. But the Commodity Exchange Act doesn’t define these as commodities.
The U.S. commodities markets are in Chicago, New York, and Atlanta. The CME Group owns all but one. The Chicago Mercantile Exchange focuses on agricultural commodities, while the Chicago Board of Trade specializes in grains. The New York Mercantile Exchange focuses on energy and metals, while the Commodity Exchange is located in New York, although the Chicago-based CME Group owns them. The New York Board of Trade is now owned by Atlanta-based Intercontinental Exchange. It trades mostly in the softs markets.
In 1975, the Commodity Futures Trading Commission began regulating commodities. The Commission replaced the Commodity Exchange Authority and the Commodity Exchange Commission. In 1936, the Commodities Exchange Act had established these bodies to administer the Act and to set federal speculative position limits.
Commodities as a Business Term
In business, commodities can be defined as any good or service that is bought and sold purely on price. These include the traded commodities. They can also include products that are not very differentiated from others based on brand, benefits or other distinguishing features.
For example, Coca-Cola is a branded product that receives great loyalty, and a higher price, because of its perceived differentiation from other cola drinks. A low-cost store brand is more of a commodity because it isn't much different from other store brands and is bought primarily because of its low price, not its taste.