Trading commodities is fundamentally the same as trading equities, stocks, and other securities. However, to trade commodity online, you need to familiarize yourself with the nuances of the commodities markets and learn a few best practices.
When you place trades in a commodity market, you are not trading in stocks of companies but in raw materials like metals, agricultural produce, and other raw materials produced in large quantities.
Commodity trading is considered less risky and a great way to diversify beyond stocks. You can make the best out of your commodity trading by following a few best practices.
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1. Use Leverage with Caution
Commodity trading involves a higher degree of leverage. The leverage can go up to 14-16x in many cases. However, the added benefit of leverage must be used judiciously. For that, remember two things:
- Define for yourself the percentage of capital you are willing you lose and make the trades accordingly.
- Keep in mind that leveraged positions can magnify profits as well as losses.
2. Observe and Understand the Market Cycle and Trends
Commodity markets go through a cycle of ups and downs because of various demand and supply conditions, geopolitical and economic events, etc. Make sure to include the market cycle as a factor when placing your trades.
A typical commodity market cycle may involve the following:
- Higher demand due to increased demand and capital expenditure.
- The market reaches a saturation point, aka overbought conditions, and the demand starts falling.
- The supply becomes greater in relation to less demand, and commodity prices fall to reach market equilibrium.
Have a plan ready to use the trends to your advantage. Look beyond the occasional volatility in the cycles and sub-cycles. Capture the direction of the trend and trade accordingly. The commodities market is homogenous, and most commodities will behave similarly.
3. Always Use a Stop Loss
While using stop loss is recommended in all kinds of trading, its importance is even greater to trade commodity online due to reasons such as:
- Commodity trading involves leverage on low margins. Stop loss can help you avoid losses if things go the wrong way.
- Stop loss can ensure you don’t overexpose yourself to a single commodity while placing trades.
You also increase your risk when overexposing yourself to a limited number of commodities. If you avoid overexposure, you also save yourself from the temptation to average your losers.
Instead of buying a previously expensive commodity at a low price now, you may exit your current position and look at it with a fresh perspective once you study the trend.
4. Use Market Volatility to Your Advantage
Volatility is a fundamental phenomenon of every financial market, including commodity markets. Instead of looking at it as a foe, make it your best friend.
Some commodities like copper or energy commodities may be more volatile, while commodities like crude oil and gold may be less volatile. Less-susceptible commodities mimic the broader long-term trend. Remember the times during the pandemic when crude oil prices were on a downfall for some time?
In such situations, you can make the best out of commodity trading by understanding the underlying broader trend and the price range of the commodity you wish to trade in. Determine the lot size based on the volatility and not margin alone while placing your trades in commodity markets.
5. Choose Your Broker After Considerable Thought
Choosing the right broker for commodity trading may be underrated, but it can prove extremely beneficial. Pick a commodity trading app that is fast to execute your trades quickly.
The amount of brokerage you pay for getting trades done also impacts your profit margins. Go for the cost-effective one.
Dhan offers a lightning-fast experience, Superfast APIs, TradingView integrations, and a vast array of useful features to help you place profitable trades in the commodity as well as other markets. It is a cost-effective platform with zero onboarding fees and minimum trading charges. Moreover, you can trade directly on TradingView charts without losing time in switching tabs.
Commodity trading shouldn’t be done in the heat of the moment. Avoid overtrading at all costs and always trade to a plan. Set your own rules and conserve your capital. Commodity trading can prove highly profitable if you learn to follow the best practices and manage your risks accordingly.