What Is a Commodity Broker?
Definition & Examples of How Commodity Brokers Work
A commodity broker is an individual broker or brokerage firm that handles commodity trades on behalf of its clients.
Whether you're making trades online or over the phone, your commodity broker is essential for getting trades done efficiently. Learn more about what commodity brokers do and how they can help you make your trades.
What Is a Commodity Broker?
Commodities are tangible goods sold and traded throughout the world, including agricultural products, industrial metals, and energy sources such as crude oil. In addition to a direct trading market, however, these products are bought and sold by investors in the form of futures, options, and other financial derivatives. Commodity brokers play an integral role in this process.
The term "commodity broker" typically refers to someone who places commodity trades for their clients, but it can also refer to a brokerage firm that handles commodity trades. For registration purposes, brokerage firms are designated as introducing brokers (IB) or futures commission merchants (FCM). Individuals are designated as associated persons (AP).
A commodity broker is essentially a mediator between individual traders and the exchanges to facilitate smooth commodity trading.
How Commodity Brokers Work
Commodity brokers facilitate trading in the commodity markets for the average investor. Aside from owning a seat on an exchange and trading in the commodity pits, most people have to trade commodities through a broker.
Commodity brokers have traders on the floor to execute your trades, or they might have a trading platform that places and executes trades electronically at the exchanges. The exchanges rely on brokers to bring business to the exchanges and they have their own rules to govern how the brokers conduct business. It's much easier to conduct business with a few dozen brokerage firms than it is to let hundreds of thousands of individuals place trades directly with an exchange.
Many individuals also rely on commodity brokers for trading advice and recommendations. The commodity markets can be difficult to understand at first, and many people probably would never trade them without the help of a broker. Brokers make it easier for individuals who are new to investing to begin trading commodities.
Commodities were exclusively traded in the commodity pits on exchanges until the 1990s. Most orders were placed by phone through a full-service broker. The typical order went something like this:
A client would call their IB with a tradethey wanted to place. The broker would take the order and time stamp it. They would then immediately call the FCM that handles the IB's orders and relay the same trade that their client called in. This call typically went to a phone bank on the exchange floor where a clerk took the order.
From there, the clerk wrote a ticket for a floor broker in the pits to execute, or they might have sent the order to the pit by hand signal. When the floor broker filled the order in the pit, they would give the ticket to a runner or signal back to the clerk. The clerk would then call the broker back with the trade confirmation, and the broker called his client back with the full price after receiving the information.
Online Commodity Trading
A client trading online will log into their broker's trading platform and select the market they want to trade along with the type of order, price, and quantity. This is all done with a couple of clicks of the mouse. When the order looks good, the trader will hit the "Buy" or "Sell" button to send the order through. The order is routed instantly to the exchange’s trading platform and matched with other similar orders. A market order is typically filled instantly, and the trader receives a confirmation on their computer within a second or two.
Online trading is much quicker, cheaper, and more efficient, but individuals still have the opportunity to use a full-service broker if they choose. This lets them discuss trading opportunities and explore their options. Many brokers offer a mix between the two—a trader can talk with a broker then place their own trades online.
- A commodity broker acts as a go-between for individual traders and the exchanges.
- Traders benefit from commodity brokers' services because they make the process more orderly through technology, experience, and monitoring regulations.
- Most of the time, you will need a commodity broker in order to trade commodity futures, options, and other commodity-related financial derivatives.
- Commodity brokers also help bring in customers. Without them, there would be substantially less business in the commodity markets.