The ChoosaBroker Trading Academy

7.3. Global Commodity Exchange

Commodity investing has become increasing popular over the past couple of decades as the rapid expansion and modernization of commodity exchanges around the world opened this once elusive asset class to the average, retail market participant. In this lesson, we will try to learn:

What is a Commodity Exchange?

A commodity exchange is an organized and legally regulated marketplace that facilitates the purchase and sale of futures contracts whose values are linked to the prices of a wide range of underlying commodities, including crude oil, metals, corn, wheat, cocoa, coffee, barley, sugar, maize, dairy products, pork bellies, etc.

Commodity exchanges conduct their business via two models:

  1. Pit Trading – Not till very long ago, most commodity exchanges organized their trading through a process known as “open outcry” in locations called “trading pits.” The buyer or seller of a commodities futures contract would call a broker and place an order. The commodities broker would then relay the order to a desk clerk on the floor of the exchange. The desk clerk, in turn, transmitted the order to a floor broker standing in the trading pit of the exchange, who would finally execute the trade on behalf of the customer with another floor broker.
  2. Electronic Trading – Under this method, traders and investors simply enter their buy or sell orders onto an electronic trading platform that is connected to the commodity exchange. This platform automatically matches all the buyers and sellers within the exchange, and executes their orders. Due to faster order implementation and lower costs, most commodity exchanges have now switched to electronic trading from pit-based trading.

Importance of Commodity Exchanges

Exchanges formalize the entire process of buying and selling of commodities and provide the following key advantages:

  1. Transparency and Efficiency – Due to the presence of a large number of buyers and sellers in a regulated environment, exchanges help in efficient and transparent price discovery.
  2. Standardization – Since exchanges standardize the features of a commodity futures contract, the commodities get traded in fixed units, with clearly defined quality. This helps market participants compare prices on a like-for-like basis.
  3. Liquidity – Without the presence of a structured exchange, producers and consumers of commodities would lack the liquidity to buy and sell. This would invariable increase the volatility in prices of important commodities and destabilize an economy.

List of Top Global Commodity Exchanges

Many commodity exchanges operate worldwide, with each typically specializing in certain commodities. The below list will introduce you to the 4 biggest commodity exchanges in the world.

  1. Chicago Mercantile Exchange (CME) – Originally founded in 1898 as the Chicago Butter and Egg Board, the CME is the world’s most diverse derivatives marketplace, offering futures and options contracts in agriculture, foreign exchange, equities, interest rates, credit, and economic events. The exchange is owned and operated by the CME Group.
  2. Chicago Board of Trade (CBOT) – Established in 1848, the CBOT ranks as one of the world’s first futures and options exchange. Since 2007, it became a subsidiary of the CME Group. Over 50 different derivative contracts are traded by more than 3,500 CBOT members through both electronic trading and open outcry.
  3. New York Mercantile Exchange (NYMEX) – The world’s largest physical commodities exchange, the NYMEX was acquired by the CME Group in early 2008. The NYMEX West Texas Intermediate Light Sweet Crude Oil futures is the world’s most actively traded crude oil contract. Commodity Exchange Inc. (COMEX), which also operates as a division of the NYMEX, is best known for offering exposure to various futures contracts in metals.
  4. London Metal Exchange (LME) – The LME can trace its roots all the way back to 1571, when the Royal Exchange in London was opened for trading in copper. The LME is the world’ s leading centre for the trading in industrial metals, with roughly around three quarters of all non-ferrous metal futures business conducted there. Since 2012, the LME has been owned by Hong Kong Exchanges and Clearing.

Final Thoughts

Exchange Name Notable Commodities Market Timing
Chicago Mercantile Exchange
Pork Bellies, Live Cattle, Feeder Cattle, Lean Hogs, Lumber
Unique for each futures contract, though generally from 9:05 am Monday to 1:55 pm Friday (halt at 4 pm – 5 pm daily) U.S. Central Time.
Chicago Board of Trade
Corn, Soybean, Wheat, Rice, Ethanol
Sunday to Friday, electronic trading from 7:00 pm to 7:45 am (daily break from 7:45 am to 8:30 am) U.S. Central Time.
New York Mercantile Exchange
Crude Oil, Natural Gas, Heating Oil
Sunday to Friday from 6:00 pm to 5:15 pm (with a 45-minute break each day between 5:15 pm and 6:00 pm) U.S. Eastern Standard Time.
Commodity Exchange Inc.
Gold, Silver, Copper
Sunday to Friday from 6:00 pm to 5:15 pm (with a 45-minute break each day between 5:15 pm and 6:00 pm) U.S. Eastern Standard Time.
London Metal Exchange
Aluminium, Copper, Lead, Nickel, Zinc
7:00 am to 7:00 pm Monday to Friday Greenwich Mean Time.

Final Notes

For the average investor, commodity futures may seem too complex and risky. As such, many turn to futures-based Exchange Traded Funds (ETFs) and Exchange Traded Notes (ETNs) to gain their desired exposure to the market. While these products are no doubt sound investments, investing directly in to futures potentially remains the most profitable way to make a play on the commodities space.

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