What is a Commodity Broker?
Online Trading vs. Full-Service Brokers
The term "commodity broker" typically refers to someone who places commodity trades on behalf of his clients. The term is also synonymous with 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).
The Work of Commodity Brokers
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 couple 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. Brokers make it easier for individuals who are new to investing to begin trading commodities. The commodity markets can be difficult to understand at first, and many people probably would never trade them without the help of a broker.
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 his IB with a trade he wanted to place. The broker would take the order and time stamp it. He would then immediately call the FCM that handles the IB's orders and relay the same trade that his 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 she might have sent the order to the pit by hand signal. When the floor broker filled the order in the pit, he would give the ticket to a runner or he would signal back to the clerk. The clerk would then call the broker back with the trade confirmation. The broker then called his client back with the full price when he received the information.
Yes, it sounds a bit archaic, because it was. Now we step into online trading.
A client trading online will log into his trading platform furnished by the broker. He'll select the market he wants to trade along with the type of order, price, and quantity. This is all done with a couple 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 his computer within a second or two.
Online trading is much quicker, efficient and cheaper, 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 his own trades online.
The Role of the Commodity Broker
In reality, a commodity broker acts as a go-between for individual traders and the exchanges. He makes the process more orderly through technology, experience, and monitoring regulations. Commodity brokers also help bring in customers. Without them, there would be substantially less business in the commodity markets and people would be much less educated on them.