Understanding Commodity Market Analysis

In the world of trading, the commodity market has a prominent place. Commodities include agricultural products, energy resources, metals, etc. For traders, the commodity market offers an opportunity to earn profits by creating long and short positions in the futures and options contracts. However, understanding this market requires extensive knowledge about the factors that influence the commodity market, such as economic data releases, geopolitical events, etc.

In today’s blog, we will explain various commodity trading tips.

What is Commodity Market analysis?

Analysis of the commodity market is a process in which a trader studies and interprets all the factors that can influence the prices of commodities. The main aim of analyzing the commodities market is to get insights into the market trends and make informed trading decisions. 

There are two major ways to analyze any financial asset: fundamental and technical. Let’s look at the two approaches used in more detail to analyze the commodities market. 

Fundamental Analysis in the Commodity Market

What it is: The main objective behind conducting a fundamental analysis of the commodities market is to understand the variables that influence the supply and demand for a given commodity. It focuses on studying economic, political, and other aspects which could impact the prices of a specific commodity. Therefore, conducting a thorough fundamental analysis is crucial in the commodity market before starting trading in it.

Key Factors to Consider

Key factors to consider while conducting a fundamental analysis of the commodity market are:

• Inventory: Changes in inventory levels have a direct impact on the demand for the commodity and influence the price level of a commodity. For example, if the inventory of crude oil increases and the demand remains constant, the price of crude oil will decrease.
• Consumer Preference: Demand for certain commodities can be impacted indirectly by changes in consumer spending. For example, suppose the average income of the majority of the population is rising, and there has been a reduction in demand for silver and an increase in demand for gold.
• Global Events: Unfavourable events happening around the world cause the demand for certain commodities to increase. For example, at the time of COVID-19, the stock market crashed, and the demand for gold increased as people considered it a safe haven for investment.
• Currency Rate: Most commodities around the globe are priced in US dollars; hence, any change in the rate of USD can impact the prices of the commodity.
• Trade Policies: Trade agreements and import-export tariffs between the countries could impact the supply and demand of commodities.

Example: A few examples of fundamental analysis on the commodity markets are mentioned below:

1. Decision of OPEC Countries: The Organisation of Petroleum Exporting Countries (OPEC) consists of countries that play an important role in determining the supply of crude oil and indirectly influencing crude oil prices. For instance, if OPEC declares a reduction in crude oil production, the supply will be reduced, which will raise prices. 

2. Impact of Weather: Any natural disaster, such as droughts, floods, etc., can dramatically impact the agricultural yield and increase the prices of the current inventory of agricultural products.

Technical Analysis in Commodity Markets

What it is: Technical analysis is a process of studying the historical price movement and patterns in market data to determine expected future price movement for making trading decisions. Head and shoulder, symmetrical triangles, bullish engulfing, etc., are a few examples of such patterns that traders widely use. While conducting technical analysis, it is assumed that the commodity’s current price reflects all relevant information. Technical analysis is based on three main principles: history repeats itself, pricing discounts everything, and price moves in patterns. Therefore, if any traders wish to trade in commodities, they must have proper knowledge of technical analysis tools.

Key tools and indicators: The key tools and indicators which are used in technical analysis are as follows:

1. Price charts: A commodity trader uses price charts of a particular commodity to analyze past price movements and wait for similar patterns to create trading positions. 

2. Volume: Volume in a particular commodity reflects the trading activity in it during that particular time frame. For example, if the trading volume is low, the commodity prices tend to consolidate in a channel, but if the volume is high, breakout in any particular direction is a strong indication of a strong trend.

3. Resistance and support: The two important metrics a trader uses while making decisions using technical analysis tools are resistance and support, which represent the historical price levels beyond which the commodity prices generally don’t give a breakout. For example, if any commodity breaks its nearest resistance level with good volume, we can expect an upward movement, and if it breaks its support, we can expect a bearish price trend.

4. Analysis of Trend: Technical analysts have classified price movement into three main categories, namely, sideways trend, downtrend, and uptrend. For example, when a commodity is in an uptrend, it signifies the rise of that particular commodity. Similarly, if a commodity is in a downtrend, the commodity price is declining quickly. However, if the price of the commodity moves within a range in a consolidated manner, then traders should wait for a breakout.

Why it works?

The reasons why technical analysis works in the commodity market are as follows:

1. Market Sentiments: Market sentiment influences the price of the commodity in the short term, and technical analysis of the market sentiment can help a trader make informed trading decisions.

2. Price Action: The price action pattern in the price chart of a commodity reflects the forces of demand and supply. 

3. Over-Bought and Over-Sold Zone: The trader can easily trace out the over-bought zone and over-sold zone of a particular commodity by doing technical analysis. For example, if the price of a commodity lies in an over-sold zone, then the trader can make a long position in it and vice-versa.

4. Entry and Exit: Technical analysis can help an investor in identifying the entry and stop-loss levels. 

Read Also: How to Trade in the Commodity Market?

Combining Analysis Techniques

There are various benefits of combining technical analysis tools with fundamental analysis while trading in the commodity market; a few of such benefits are mentioned below:

1. Management of Risk: While technical analysis can help you safeguard your capital through the determination of a proper entry and stop-loss level, fundamental analysis allows one to evaluate the various parameters affecting a particular commodity, which can impact the performance of the commodity in the long run.

2. Opportunities: While technical research may aid in determining the best time to enter and exit a market, fundamental analysis may assist an investor in finding a commodity that has the potential to perform well over the long term.

3. Accuracy: Combining both fundamental and technical tools helps increase the probability of successful trade and profitability.

Tools and Resources for Commodity Market Analysis

The commodity market makes use of several instruments to analyze the price movement of commodities, some of which are as follows:

Fundamental Analysis Resources: In the market, resources and data for doing fundamental analysis are:

1. Macro-Economic News: The performance of the commodities market is influenced by several global economic indicators, such as data on industrial output, the exchange rate, and other geopolitical events. Reuters, Bloomberg, etc., are the platforms that provide regular updates on macroeconomic news.

2. Commodity Report: These are research reports that consist of information about current production, price points, key players, etc. and are released by agencies on a monthly or quarterly basis.

3. Inventory: It is a critical piece of information as inventory levels reflect the quantity of commodities currently available. Low inventory levels increase demand and hence raise prices of that commodity. Usually, these reports are published weekly.

Technical Analysis Tools: These tools help a trader identify the trends in prices of a commodity in the following ways:

1.  Price Charts: The commodity price movements can be tracked and analyzed using price charts

2. Technical Indicators: Traders use a variety of technical indicators such as relative strength index, moving average, and others to predict future price movement.

Read Also: What is Commodity Market in India?

Conclusion

Finally, before beginning your trading journey in the commodity market, it is essential to have a thorough understanding of it. Technical analysis and fundamental analysis are the two major approaches that can be used to analyze the commodity market. Combining these two results in an ideal approach that may result in increased profitability. Before trading in the commodity market, you are advised to speak with your financial advisor.

To have a better understanding of the commodity market, you can open a demat account with Pocketful and use the advanced technical tools and other key information they offer to analyze the commodity market.

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