Trading commodities is exciting and unpredictable with a host of global and local factors that command various fluctuations in commodity prices. Be the experience trader or novice to such a field of trading, knowledge on the key drivers that determine commodity prices will be very helpful for more informed making of decisions. The five drivers of commodity prices that are driving commerce today and how they influence trading strategies are shown below.
Supply and demand is the most compelling force behind commodity price volatility. Low supply or disrupted supply—whether from geopolitical issues, natural disasters, or bottlenecks in production—naturally pushes up the prices. When there is more than an adequate supply of a commodity, in general, prices tend to fall down. For instance, political turmoil in massive oil-producing nations can make the price of oil skyrocket overnight. Agricultural commodities like wheat and corn may be influenced by drought or floods. Traders closely monitor supply-demand changes with weather forecasts, news about geopolitical hotspots, and other economic reports, placing them a step ahead against commodity trading competitors.
Economic growth is also one such factor that determines the demand for commodities trading. Growth in the world economy generates growth in industrial activity that leads to an increase in the demand for raw materials, such as metals, energy, and agricultural products. In the times of recessions or economic slowdowns, commodities witnessed a decline in their demand, typically along with a fall in their prices. Indicators the traders use include growth in GDP, manufacturing output, and the number of people employed, which will determine the general state of the economy and help estimate its spillover effects on commodity prices.
A third significant factor which influences commodity prices is fluctuations in currencies. Various commodities traded internationally have their prices quoted in US dollars. Value fluctuations of the dollar can easily influence commodity markets, for instance, when the dollar strengthens, the commodity becomes more costly to foreign buyers, leading to a decrease in demand and even causing the price potentially to fall. Conversely, when the dollar weakens, commodities then become cheaper for buyers outside the U.S., thereby increasing demand and causing prices to rise. This situation forces traders to monitor currency markets and central bank policies closely because the movement in the exchange rate gives them some insight about potential price changes in the commodities market.
Government policies will also have a direct implication on commodity prices. Tariffs, subsidies, and taxes can shift the cost of producing commodities up or downwards. For example, a tariff in importing oil makes it costly for countries to acquire a commodity and can be reflected in prices. On the contrary, subsidies for agricultural products raise the production of such products and subsequently lower their prices. The detailed knowledge gained from the information on policies, regulation, and actions within the governments’ system helps traders to better predict changes in the prices of commodities.
Investor sentiment and speculation are often major drivers of commodity price. Speculators, like hedge funds and individual traders, can buy and sell commodities based on their perceptions about future changes in the price rather than on fundamentals of supply and demand. For example, if there are rumors of a short fall in supply, traders may rush to take up a commodity to inflate its price before the shortage actually occurs. Because such a strategy involves the continuous attention to the market’s feelings, trader decisions as to what positions to enter or exit are based on how investor behavior is changing prices.
Understanding the interplay of the factors that influence commodities trading-hence, supply and demand, economic growth, currency fluctuations, government policies, and investor sentiments-is a critical component for navigating the complexity of commodities trading. The analysis helps traders better predict price trends and arrive at the most informed decisions for making trading choices.
