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Event Risk in Commodity ETF s ETN
Commodities are all over us. We consume them every day. When sip a latte at Starbucks or fuel your car, you have simply impacted hundreds of companies. In terms of coffee, you have impacted companies such as Monsanto, Deere, Maersk, and Starbucks among others. In terms of oil, you have impacted companies like ExxonMobil and companies in the trucking industry. In fact, it has been argued that commodities run the world. Consider countries such as Saudi Arabia and Russia whose economies are based on crude oil.
There are many commodities which are put in four distinct categories. These categories are: softs (cotton and orange juice), meats (live lean hogs and cattle), grain-related (corn and wheat), energy-generation (oil crude and heating oil), and metals (gold and silver). We use most of these commodities every day. Therefore, the price movements of these companies affect the financial market. A good example is what happened in 2015 when the price of commodities slumped. The Bloomberg Commodities Market reached its lowest level, driven by crude oil.
As a trader, you can benefit from the price movements of commodities in a number of was. One, you can buy them when their prices are low and sell when they are high. You can also decide to trade the commodity focused Exchange Traded Funds (ETFs) or Exchange Traded Notes (ETNs). Regardless of which method you decide to follow, the fact is that you will benefit from price movements which are caused by demand and supply.
The first event which affects the price of commodities is weather. Weather affects all types of commodities. In terms of agricultural commodities, extreme weather leads to scarcity. The law of demand and supply states that the price will move up when the supply is limited. Therefore, when there is a draught, the price of some agricultural products will go up.
This is not limited to agricultural products alone. A good example is during Hurricane Katrina in 2005. This hurricane had a major impact on the Mexico Gulf where oil refineries saw significant damages. It also made it impossible for oil suppliers to supply the commodity. As a result, the price of oil went up because investors anticipated that supply will be limited.
The idea of weather and its impact on commodities is so large because it affects all of them. The final example is when there are extreme weather conditions in copper mines. This means that miners are not able to mine which will affect the demand and supply of commodities.
The best way to explain this is to consider an example. In 2015, Turkey shot down a Russian plane. When this happened, crude prices, which were originally going down, reversed course and went higher. This was because traders thought that a conflict would ensue between Russia and Turkey. This would lead to a reduction in oil supply because Russia is a leading oil supplier.
As a trader, you first need to understand the main suppliers and consumers of the commodities you are targeting. After this, you should always be on the lookout for risks that may arise. Remember that risks can lead to a shortage of supply which might lead to a reduced price.
Economics and Policy
Commodity price are also affected by the economics and policy of the producers and consumers. A good example in this is China. As the largest country on earth, the economy of China has direct effect on commodity prices. A strong Chinese economy means that people are able to buy goods. This leads to an increase demand and then pushing the price higher. For instance, a strong economy can make more people have cars. They will need oil to run these cars. This will increase the demand which will push its price higher.
Policies also play a role in commodity pricing. Easing of monetary policy means that more people will have more spending power because of low interest rates. This increases demand which leads to a higher price.
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