Commodities : International Environment & Trading (OFIN 2290A)
1 –International Commodities Trading
Franck Pradier – Commodities Derivatives Trading– February 2008
History of Commodities
Classical civilizations built complex global markets trading gold or silver for spices, cloth, wood and weapons,
most of which had standards of quality and timeliness.
The modern commodity markets have their roots in the trading of agricultural products. While wheat and corn,
cattle and pigs, were widely traded using standard instruments in the 19th century in the United States, other basic
foodstuffs such as soybeans were only added quite recently in most markets. For a commodity market to be
established there must be very broad consensus on the variations in the product that make it acceptable for one
purpose or another. The economic impact of the development of commodity markets is hard to over-estimate.
Through the 19th century "the exchanges became effective spokesmen for, and innovators of, improvements in
transportation, warehousing, and financing, which paved the way to expanded interstate and international trade.“
Commodity exchanges began in the middle of the 19th century, when businessmen began organizing market
forums to make buying and selling of commodities easier. These marketplaces provided a place for buyers and
sellers to set the quality, standards, and establish rules of business. By the late 1800s about 1,600 marketplaces
had sprung up at ports and railroad stations.
The London Metal Market and Exchange Company was founded in 1877 but the market traces its origins back
to 1571 and the opening of the Royal Exchange. At first only copper was traded, lead and zinc were soon added
but only gained official trading status in 1920.
The Chicago Board of Trade was founded in 1848. The NYBOT in 1870. The NYMEX in 1882. The COMEX in
Commodities World Map
Canada: Oil, NG
(7%), Gold, Silver,
Russia: Oil (11%), NG (22%),
Gold (7%), Silver, Alu, Nickel
$3 120 Bil
$1 000 Bil
$ 700 Bil
$ 50 Bil
$ 40 Bil
$ 101 Bil
$ 28 Bil
$ 82 Bil
Refined Products $3 600 Bil
$ 800 Bil
Eur 48 Bil
$ 20 Bil
$ 132 Bil
$ 700 Bil
$ 13 Bil
Commodities Derivatives Trading represents in comparison : $ 300 Bil turnover /day
2. Commodities markets have some intrinsic characteristics:
High Volatilities & Spikes
Long term trends
Very sensitive to International Politics
Price not all the time driven by fundamentals like production, stocks…
Each commodity markets have their own regulation & standards
Energy Commodities have a strong interrelationship together
Trends & Cycles
Trends & Cycles
Trends & Fundamentals
Interrelationships within the energy market
Crude Oil West Texas Intermediate
+210% in 15 months
US Gasoline RBOB
+185% in 15 months
+320% in 26 months
+350% in 6 years &
+150% in 8 months
+250% in 16 months
+300% in 15 months
+416% in 15 months
Price of H.G. Aluminium relative to other base metals
Jan 2003 Price = 100
Functioning of Physical Markets
Physical markets are OTC markets where producers sell commodities to physical traders or other producers.
They need to take care of Freight & Insurance (FOB – Free on Board vs CIF) but can pay for them.
Practically there is plenty of different qualities for each commodities :
-for Crude Oil: 6 for North Sea, 11 in US, 7 in Canada, 12 for the OPEC basket. A total of more than 100 different
quality of crude oil is traded across the world.
-for refined products: in Europe there is 50 different products available – each can be FOB or CIF. Worldwide that
is maybe 200.
The spot price assessment is a method defined by an external organisation (Platts, ) to fix a closing price of a
commodity each day. They define that as “the latest range in which a standard repeatable transaction takes place
or could take place at arms length”.
Functioning of Derivatives Markets
The Commodity derivatives markets were set up to enable commodity actors to hedge their future consumption or
production in order to be able to smooth their future profits or costs. After few years speculators used these
markets to punt aggressively.
Each market disposes of a Forward curve: for each standard maturity you can enter into a forward agreement
(Buy or sell). This forward curve represents the perception of the supply-demand at each expiry date.
Ex: for Crude Oil WTI you can trade each monthly expiry up to 36 months + all the 4 next december contracts
Exchange traded Futures or OTC Forwards & options are available for market participants.
The listed Exchanges trade 22 hours a day. The settlements are defined as the average price during a short
period (1 to 5 mns).
1 - Physical Players:
They are generally producers or work like financial intermediaries. They are trying to optimize the fixing price of a
commodities each day, week, month and to take profit from their size.
For oil & Gas: The Majors (Exxon, BP, Shell, Total, ConocoPhilips, Repsol) & the Russians (Gazprom, Lukoil),
Hess & Mitsui
For Electricity: RWE, EDF, Eon, Vattenfall, Enel, Endesa
For Metals: Arcelor-Mittal, BHP Bilington
For Agricultural products: Cargill
The Commodity Traders: Glencore, Vitol, Trafigura, Mercuria, Gunvor, Phibro, Sempra
2 - Speculative Traders:
They are generally Hedge Funds or Bank traders who are trying to make profit on a short/mid term positions.
3 - Investors:
A new trend in commodities market: Commodities Assets are considered as Investments.
The Asset Managers are investing some very large slice of their capital to protect the rest of their portfolio against
4 - End Users:
Industrial Corporations or Airliners face to a risk of commodity prices. They need to forecast prices evolution and
to hedge against these risks.
Recession in US: Impact on Global growth and Global commodities demand?
Credit & Subprime crisis: Impact on Financing??
Banks crisis: Impact on Investment??
Euro/Dollar & Equities crisis: Impact on Commodities prices?