All you need to know about commodity exchanges and their existence.

The daily transaction volume runs into millions of dollars. Many people find it amusing that businesses as essential as agriculture and mining have resulted in markets as huge and as modern as today's commodity exchanges. Companies that trade in cornflour and wheat will go to the top universities and hire the scholar graduates with elite packages.


The ordinary person will not understand the role of the commodity exchanges and how they add more value to the business. We will begin with the easy exchange of grain foods and cash and will slowly build up the modern markets.

Spot Market

This is an old traditional way used for the trading of commodities all over the world. This might require an exchange of money for commodities. However, there is a problem. Firstly, commodities are highly perishable, which means that the buyers have to be found out in a short time. Secondly, price discovery is creating some problems. It becomes tough for the seller to determine whether they are selling at the correct price until they are at the market and notice that other sellers are also selling at similar rates. This created the material commodities market, also known as spot market. The transactions were settled on the spot; that’s why it is called a spot market.


Future market


The spot market helped sellers and buyers to locate each other affordably. They also helped in the price discovery part, but there was still a problem.  


Many farmers are entering into futures with their buyers to avoid this unpredictability. Both parties exchange their commodities at a later date. However, the terms will be agreed on in the current scenario. The forward contracts will eliminate the uncertainty and allow buyers and sellers to trade as per their capacity.

The need of a centralized counterparty

Future contracts are the most preferred way of dealing. However, other concerns started arising. For example, many times, counterparties will run out of business. Therefore, the mutual contract has been entered. The farmers will get their relative terms in these contracts and avoid a giant financial disaster.

This created an incredibly centralized counterparty that would never go out of business. The idea of an exchange was born at that time. The exchange plays the role of a common counterparty to every business.

The farmer directly sells their contract to the respective buyers through the exchange. Since the exchange can not go under regular circumstances, The contracts are foolproof. Therefore, the markets of the Chicago Board of Trade (CBOT) and New York Mercantile Exchange (NYMEX) exist.




Marketing to Market

The market provides leverage to buyers when they become centralized counterparties. They have realized that by getting a small percentage of contract value from each side called margin money, they can make sure that both parties comply with trading ethics.

Therefore, the exchanges have started making trades with the market value. All the difference has to be paid in cash. Suppose the parties did not comply with the respective margin calls of the exchange. It will sell off the current position to another party. The remaining money will be forfeited with the methods of margin money to market modern exchanges that ensure no party can escape from their commitment of leaving counterparty in a difficult position.


Visit our website to know more about commodity exchanges and commodities trading training, and there are various options for commodity trading courses as well.


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