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Acommodity marketis amarketthat trades in theprimary economic sectorrather than manufactured products, such ascocoa, fruit andsugar. Hard commodities are mined, such asgoldandoil.1Investors access about 50 major commodity markets worldwide with purely financial transactions increasingly outnumbering physical trades in which goods are delivered.Futures contractsare the oldest way of investing in commodities. Futures are secured by physical assets.2Commodity markets can include physical trading and derivatives trading usingspot pricesforwardsfutures, andoptionson futures. Farmers have used a simple form of derivative trading in the commodity market for centuries for price risk management.3

Afinancial derivativeis a financial instrument whose value is derived from a commodity termed anunderlier.2Derivatives are eitherexchange-tradedorover-the-counter(OTC). An increasing number of derivatives are traded viaclearing housessome withcentral counterparty clearing, which provide clearing and settlement services on a futures exchange, as well as off-exchange in the OTC market.4

Derivatives such as futures contracts,Swaps(1970s-), Exchange-traded Commodities (ETC) (2003-), forward contracts have become the primary trading instruments in commodity markets. Futures are traded on regulatedcommodities exchanges. Over-the-counter (OTC) contracts are privately negotiated bilateral contracts entered into between the contracting parties directly.56

Exchange-traded funds(ETFs) began to feature commodities in 2003. Gold ETFs are based on electronic gold that does not entail the ownership of physical bullion, with its added costs of insurance and storage in repositories such as theLondon bullion market. According to theWorld Gold Council, ETFs allow investors to be exposed to the gold market without the risk of pricevolatilityassociated with gold as a physical commodity.78notes 1

Commodity-based money and commodity markets in a crude early form are believed to have originated inSumerbetween 4500 BC and 4000 BC. Sumerians first usedclaytokens sealed in a clay vessel, thenclay writing tabletsto represent the amountfor example, the number of goats, to be delivered.910These promises of time and date of delivery resemblefutures contract.

Early civilizations variously used pigs, rare seashells, or other items ascommodity money. Since that time traders have sought ways to simplify and standardize trade contracts.citation needed

Goldandsilvermarkets evolved in classical civilizations. At first the precious metals were valued for their beauty and intrinsic worth and were associated with royalty.citation neededIn time, they were used for trading and were exchanged for other goods and commodities, or for payments of labor.11Gold, measured out, then became money. Golds scarcity, its unique density and the way it could be easily melted, shaped, and measured made it a natural trading asset.12

Beginning in the late 10th century, commodity markets grew as a mechanism for allocating goods, labor, land and capital across Europe. Between the late 11th and the late 13th century, English urbanization, regional specialization, expanded and improved infrastructure, the increased use of coinage and the proliferation of markets and fairs were evidence of commercialization.13The spread of markets is illustrated by the 1466 installation of reliable scales in the villages of Sloten and Osdorp so villagers no longer had to travel to Haarlem or Amsterdam to weigh their locally produced cheese and butter.13

TheAmsterdam Stock Exchange, often cited as the first stock exchange, originated as a market for the exchange of commodities. Early trading on the Amsterdam Stock Exchange often involved the use of very sophisticated contracts, including short sales, forward contracts, and options. Trading took place at the Amsterdam Bourse, an open aired venue, which was created as a commodity exchange in 1530 and rebuilt in 1608. Commodity exchanges themselves were a relatively recent invention, existing in only a handful of cities.14

In 1864, in the United States, wheat, corn, cattle, and pigs were widely traded using standard instruments on theChicago Board of Trade(CBOT), the worlds oldest futures and options exchange. Other food commodities were added to theCommodity Exchange Actand traded through CBOT in the 1930s and 1940s, expanding the list from grains to include rice, mill feeds, butter, eggs, Irish potatoes and soybeans.15Successful commodity markets require broad consensus on product variations to make each commodity acceptable for trading, such as the purity of gold in bullion.16Classical civilizations built complex global markets trading gold or silver for spices, cloth, wood and weapons, most of which had standards of quality and timeliness.citation needed

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.17

Reputation and clearing became central concerns, and states that could handle them most effectively developed powerful financial centers.18

In 1934, the USBureau of Labor Statisticsbegan the computation of a dailyCommodity price indexthat became available to the public in 1940. By 1952, the Bureau of Labor Statistics issued aSpot Market Price Indexthat measured the price movements of 22 sensitive basic commodities whose markets are presumed to be among the first to be influenced by changes in economic conditions. As such, it serves as one early indication of impending changes in business activity.19

Acommodity index fundis a fund whose assets are invested in financial instruments based on or linked to a commodity index. In just about every case the index is in fact a Commodity Futures Index. The first such index was theCommodity Research Bureau (CRB) Index, which began in 1958. Its construction made it unuseful as an investment index. The first practically investable commodity futures index was theGoldman Sachs Commodity Index, created in 1991,20and known as the GSCI. The next was the Dow Jones AIG Commodity Index. It differed from the GSCI primarily in the weights allocated to each commodity. The DJ AIG had mechanisms to periodically limit the weight of any one commodity and to remove commodities whose weights became too small. AfterAIGs financial problems in 2008 the Index rights were sold toUBSand it is now known as the DJUBS index. Other commodity indices include the Reuters / CRB index (which is the old CRB Index as re-structured in 2005) and the Rogers Index.

Cash commodities or actuals refer to the physical goodse.g., wheat, corn, soybeans, crude oil, gold, silverthat someone is buying/selling/trading as distinguished from derivatives.3

In aenter into a financial contract option where the buyer purchases the right but not the obligation to buy an agreed quantity of a particular commodity or financial instrument (the underlying) from the seller of the option at a certain time (the expiration date) for a certain price (thestrike price). The seller (or writer) is obligated to sell the commodity or financial instrument should the buyer so decide. The buyer pays a fee (called a premium) for this right.21

In traditionalstock market exchangessuch as theNew York Stock Exchange(NYSE), most trading activity took place in thetrading pitsin face-to-face interactions between brokers and dealers inopen outcry trading.22In 1992 theFinancial Information eXchange(FIX) protocol was introduced, allowing international real-time exchange of information regarding market transactions. TheU.S. Securities and Exchange Commissionordered U.S. stock markets to convert from thefractional systemto adecimal systemby April trification, conversion from theimperial system of measurementto themetrical, increased throughout the 20th century.23Eventually FIX-compliant interfaces were adopted globally by commodity exchanges using the FIX Protocol.24In 2001 theChicago Board of Tradeand theChicago Mercantile Exchange(later merged into the CME group, the worlds largest futures exchange company)23launched their FIX-compliant interface.

By 2011, thealternative trading system(ATS) ofelectronic tradingfeatured computers buying and selling without human dealer intermediation.High-frequency trading(HFT) algorithmic trading, had almost phased out dinosaur floor-traders.22notes 2

The robust growth ofemerging market economies(EMEs, such as Brazil, Russia, India, and China), beginning in the 1990s, propelled commodity markets into a supercycle. The size and diversity of commodity markets expanded internationally,25andpension fundsandsovereign wealth fundsstarted allocating more capital to commodities, in order todiversifyinto an asset class with less exposure to currency depreciation.26

In 2012, as emerging-market economies slowed down, commodity prices peaked and started to decline. From 2005 through 2013, energy and metalsreal pricesremained well above their long-term averages. In 2012, real food prices were their highest since 1982.25

The price of gold bullion fell dramatically on 12 April 2013 and analysts frantically sought explanations. Rumors spread that theEuropean Central Bank(ECB) would forceCyprusto sell its gold reserves in response to itsfinancial crisis. Major banks such asGoldman Sachsbegan immediately to short gold bullion. Investors scrambled to liquidate theirexchange-traded funds(ETFs)notes 3andmargin call sellingaccelerated. George Gero, precious metals commodities expert at theRoyal Bank of Canada(RBC) Wealth Management section reported that he had not seen selling of gold bullion as panicked as this in his forty years in commodity markets.27

The earliest commodity exchange-traded fund (ETFs), such as:GLDandiSharesSilver TrustNYSEArca:SLV, actually owned the physical commodities. Similar to these areNYSEArca:PALLpalladium) andNYSEArca:PPLTplatinum). However, most Exchange Traded Commodities (ETCs) implement afutures tradingstrategy. At the time Russian Prime MinisterDmitry Medvedevwarned that Russia could sink into recession. He argued that We live in a dynamic, fast-developing world. It is so global and so complex that we sometimes cannot keep up with the changes. Analysts have claimed that Russias economy is overly dependent on commodities.28

ASpot contractis an agreement where delivery and payment either takes place immediately, or with a short lag. Physical trading normally involves a visual inspection and is carried out in physicalmarketssuch as afarmers marketDerivatives markets, on the other hand, require the existence of agreed standards so that trades can be made without visual inspection.

USsoybeanfutures, for something else, are of not being standard grade if they are GMO or a mixture of GMO and Non-GMO No. 2 yellow soybeans of Indiana, Ohio and Michigan origin produced in the U.S.A. (Non-screened, stored in silo). They are of deliverable grade if they are GMO or a mixture of GMO and Non-GMO No. 2 yellow soybeans of Iowa, Illinois and Wisconsin origin produced in the U.S.A. (Non-screened, stored in silo). Note the distinction between states, and the need to clearly mention their status as GMO (genetically modified organism) which makes them unacceptable to mostorganicfood buyers.

Similar specifications apply for cotton, orange juice, cocoa, sugar, wheat, corn, barley,pork bellies, milk, feed, stuffs, fruits, vegetables, other grains, other beans, hay, other livestock, meats, poultry, eggs, or any other commodity which is so traded.

Standardization has also occurred technologically, as the use of the FIX Protocol by commodities exchanges has allowed trade messages to be sent, received and processed in the same format as stocks or equities. This process began in 2001 when the Chicago Mercantile Exchange launched a FIX-compliant interface that was adopted by commodity exchanges around the world.24

Derivativesevolved from simple commodity future contracts into a diverse group of financial instruments that apply to every kind of asset, including mortgages, insurance and many more. Futures contracts,Swaps(1970s-), Exchange-traded Commodities (ETC) (2003-), forward contracts, etc. are examples. They can be traded through formal exchanges or through Over-the-counter (OTC). Commodity market derivatives unlike credit default derivatives for example, are secured by the physical assets or commodities.2

Aforward contractis an agreement between two parties to exchange at a fixed future date a given quantity of a commodity for a specific price defined when the contract is finalized. The fixed price is also calledforward price. Such forward contracts began as a way of reducing pricing risk in food and agricultural product markets. By agreeing in advance on a price for a future delivery, farmers were able protect their output against a possible fall of market prices and in contrast buyers were able to protect themselves againsts a possible rise of market prices.

Forward contracts for example, were used for rice in seventeenth century Japan.

Futurescontracts are standardized forward contracts that are transacted through an exchange. In futures contracts the buyer and the seller stipulate product, grade, quantity and location and leaving price as the only variable.29

Agricultural futures contracts are the oldest, in use in the United States for more than 170 years.30Modern futures agreements, began in Chicago in the 1840s, with the appearance of the railroads. Chicago, centrally located, emerged as the hub between Midwestern farmers and east coast consumer population centers.

Aswapis a derivative in which counterparties exchange the cash flows of one partys financial instrument for those of the other partys financial instrument. They were introduced in the 1970s.3132

Exchange-traded commodity is a term used for commodityexchange-traded funds(which are funds) or commodityexchange-traded notes(which are notes). These track the performance of an underlying commodity index including total return indices based on a single commodity. They are similar to ETFs and traded and settled exactly like stock funds. ETCs havemarket makersupport with guaranteed liquidity, enabling investors to easily invest in commodities.

At first only professional institutional investors had access, but online exchanges opened some ETC markets to almost anyone. ETCs were introduced partly in response to the tight supply of commodities in 2000, combined with record low inventories and increasing demand from emerging markets such as China and India.33

Prior to the introduction of ETCs, by the 1990s ETFs pioneered byBarclays Global Investors(BGI) revolutionized the mutual funds industry.33By the end of December 2009 BGI assets hit an all-time high of $1 trillion.34

Gold was the first commodity to be securitised through anExchange Traded Fund(ETF) in the early 1990s, but it was not available for trade until 2003.33The idea of a Gold ETF was first officially conceptualised byBenchmark Asset Management Company Private Ltdin India, when they filed a proposal with theSecurities and Exchange Board of Indiain May 2002.35The first gold exchange-traded fund wasGold Bullion Securitieslaunched on the ASX in 2003, and the firstsilver exchange-traded fundwas iShares Silver Trust launched on the NYSE in 2006. As of November 2010 a commodity ETF, namelySPDR Gold Shares, was the second-largest ETF by market capitalization.36

Generally, commodity ETFs are index funds tracking non-securityindices. Because they do not invest in securities, commodity ETFs are not regulated as investment companies under theInvestment Company Act of 1940in the United States, although their public offering is subject to SEC review and they need an SECno-action letterunder theSecurities Exchange Act of 1934. They may, however, be subject to regulation by theCommodity Futures Trading Commission.3738

The earliest commodity ETFs, such as:GLDandiSharesSilver TrustNYSEArca:SLV, actually owned the physical commodity (e.g., gold and silver bars). Similar to these areNYSEArca:PALL(palladium) andNYSEArca:PPLT(platinum). However, most ETCs implement afutures tradingstrategy, which may produce quite different results from owning the commodity.

Commodity ETFs trade provide exposure to an increasing range of commodities and commodity indices, including energy, metals,softsand agriculture. Many commodity funds, such as oil roll so-called front-month futures contracts from month to month. This provides exposure to the commodity, but subjects the investor to risks involved in different prices along theterm structure, such as a high cost to roll.78

ETCs in China and India gained in importance due to those countries emergence as commodities consumers and producers. China accounted for more than 60% of exchange-traded commodities in 2009, up from 40% the previous year. The global volume of ETCs increased by a 20% in 2010, and 50% since 2008, to around 2.5 billion million contracts.citation needed

Over-the-counter(OTC) commodities derivatives trading originally involved two parties, without anexchange. Exchange trading offers greater transparency and regulatory protections. In an OTC trade, the price is not generally made public. OTC commodities derivatives are higher risk but may also lead to higher profits.39

Between 2007 and 2010, global physical exports of commodities fell by 2%, while the outstanding value of OTC commodities derivatives declined by two-thirds as investors reduced risk following a five-fold increase in the previous three years.

Money under management more than doubled between 2008 and 2010 to nearly $380 billion. Inflows into the sector totaled over $60 billion in 2010, the second highest year on record, down from $72 billion the previous year. The bulk of funds went into precious metals and energy products. The growth in prices of many commodities in 2010 contributed to the increase in the value of commodities funds under management.40

A commoditycontract for difference (CFD)is a derivative instrument that mirrors the price movements of the commodity underlying the contract.

Commodity CFDs are transacted worldwide (apart from the US) through regulated brokers. CFD investors can speculate on the price of a commodity moving higher (going long the CFD) or lower (going short the CFD). CFD investors do not actually own the commodity. Instead, they enter into a contract with a broker to capture the difference between the price of the commodity at the time that they transact the CFD and the price at the time they choose to exit. CFDs typically require the investor to put up margin of about 3-5% of the price of the underlying commodity contract.

For example;41Imagine youre bullish onoil. You decide to acquire CFDs to capitalize on this. You can acquire a long contract for $60.50.

To buy 20 long CFDs on 3% margin, you would need $3,630 in your account ($60.50 [long price] x 20 [number of contracts] x 100 [number of barrels in a standard contract] x 0.03 [margin percent]). You would then control $121,000 worth of oil for your $3,630.

That afternoon, you notice the price is up to $62.50 to $62.75, so you exit the trade, which now has a value of $125,500. Your profit would be approximately $4,500 on the deal. Of course, had the market moved against you, the leverage can have the opposite impact and losses can be significant.

A commodities exchange is anexchangewhere various commodities and derivatives are traded. Most commodity markets across the world trade in agricultural products and other raw materials (like wheat, barley, sugar, maize, cotton,cocoa, coffee, milk products, pork bellies, oil, metals, etc.) and contracts based on them. These contracts can include spot prices, forwards, futures and options on futures. Other sophisticated products may include interest rates, environmental instruments, swaps, or freight contracts.3

Energy commodities includecrude oilparticularlyWest Texas Intermediate(WTI) crude oil andBrent crude oilnatural gasheating oilethanolandpurified terephthalic acidHedgingis a common practice for these commodities.

For many years,West Texas Intermediate(WTI) crude oil, alight, sweet crude oil, was the worlds most-traded commodity. WTI is a grade used as abenchmark in oil pricing. It is theof Chicago Mercantile Exchanges oil futures contracts. WTI is often referenced in news reports on oil prices, alongsideBrent Crude. WTI is lighter and sweeter than Brent and considerably lighter and sweeter than Dubai or Oman.44

From April through October 2012, Brent futures contracts exceeded those for WTI, the longest streak since at least 1995.45

Crude oil can be light orheavy. Oil was the first form of energy to be widely traded. Some commodity market speculation is directly related to the stability of certain states, e.g.,IraqBahrainIranVenezuelaand many others. Most commodities markets are not so tied to the politics of volatile regions.

Oil and gasoline are traded in units of 1,000 barrels (42,000 US gallons). WTI crude oil is traded throughNYMEXundertrading symbolCL and throughIntercontinental Exchange(ICE) under trading symbol WTI. Brent crude oil is traded in through Intercontinental Exchange under trading symbol B.Gulf Coast Gasolineis traded through NYMEX with the trading symbol of LR.Gasoline(reformulated gasoline blendstock for oxygen blending or RBOB) is traded through NYMEX via trading symbol RB.Propaneis traded through NYMEX, a subsidiary of Intercontinental Exchange since early 2013, via trading symbol PN.

Natural gas is traded through NYMEX in units of 10,000 mmBTU with the trading symbol of NG.Heating oilis traded through NYMEX under trading symbol HO.

Purified terephthalic acid(PTA) is traded through ZCE in units of 5 tons with the trading symbol of TA.Ethanolis traded atCBOTin units of 29,000 U.S. gal under trading symbols AC (Open Auction) and ZE (Electronic).

Precious metalscurrently traded on the commodity market includegoldplatinumpalladiumandsilverwhich are sold by thetroy ounce. One of the main exchanges for these precious metals isCOMEX.

According to theWorld Gold Council, investments in gold are the primary driver of industry growth. Gold prices are highly volatile, driven by large flows of speculative money.46

Industrial metals are sold by themetric tonthrough theLondon Metal ExchangeandNew York Mercantile Exchange. The London Metal Exchange trades includecopperaluminiumleadtinaluminium alloynickelcobaltandmolybdenum. In 2007,steelbegan trading on the London Metal Exchange.

Iron ore has been the latest addition to industrial metal derivatives. Deutsche Bank first began offering iron ore swaps in 2008, other banks quickly followed. Since then the size of the market has more than doubled each year between 2008 and 2012.47

Agricultural commodities include grains, food and fiber as well as livestock and meat, various regulatory bodies define agricultural products.48

On 21 July 2010,United States Congresspassed theDoddFrank Wall Street Reform and Consumer Protection Actwith changes to the definition of agricultural commodity. The operational definition used by Dodd-Frank includes [a]ll other commodities that are, or once were, or are derived from, living organisms, including plant, animal and aquatic life, which are generally fungible, within their respective classes, and are used primarily for human food, shelter, animal feed, or natural fiber. Three other categories were explained and listed.49

In February 2013,Cornell Law Schoolincluded lumber, soybeans, oilseeds, livestock (live cattle and hogs), dairy products. Agricultural commodities can include lumber (timber and forests), grains excluding stored grain (wheat, oats, barley, rye, grain sorghum, cotton, flax, forage, tame hay, native grass), vegetables (potatoes, tomatoes, sweet corn, dry beans, dry peas, freezing and canning peas), fruit (citrus such as oranges, apples, grapes) corn, tobacco, rice, peanuts, sugar beets, sugar cane, sunflowers, raisins, nursery crops, nuts, soybean complex, aquacultural fish farm species such as finfish, mollusk, crustacean, aquatic invertebrate, amphibian, reptile, or plant life cultivated in aquatic plant farms.5051

In 1900, corn acreage was double that of wheat in the United States. But from the 1930s through the 1970s soybean acreage surpassed corn. Early in the 1970s grain and soybean prices, which had been relatively stable, soared to levels that were unimaginable at the time. There were a number of factors affecting prices including the surge in crude oil prices caused by the Arab Oil Embargo in October 1973 (US inflation reached 11% in 1975).52

As of 2012, diamond was not traded as a commodity. Institutional investors were repelled by campaign againstblood diamonds, the monopoly structure of the diamond market and the lack of uniform standards for diamond pricing. In 2012 the SEC reviewed a proposal to create the first diamond-backed exchange-traded fund that would trade on-line in units of one-carat diamonds with a storage vault and delivery point in Antwerp, home of theAntwerp Diamond Bourse. The exchange fund was backed by a company based inNew York CitycalledIndexIQ. IndexIQ had already introduced 14 exchange-traded funds since 2008.4653notes 4

According toCitigroupanalysts, the annual production of polished diamonds is about $18 billion. Like gold, diamonds are easily authenticated and durable. Diamond prices have been more stable than the metals, as the global diamond monopolyDe Beersonce held almost 90% (by 2013 reduced to 40%) of the new diamond market.46

Rubber trades on theSingapore Commodity Exchangein units of 1kg priced in US cents.Palm oilis traded on theMalaysian Ringgit(RM),Bursa Malaysiain units of 1kg priced in US cents. Wool is traded on theAUDin units of 1kg. Polypropylene and Linear Low Density Polyethylene (LL) did trade on the London Metal Exchange in units of 1,000kg priced in USD but was dropped in 2011.

In the United States, the principal regulator of commodity and futures markets is theCommodity Futures Trading Commission(CFTC). TheNational Futures Association(NFA) was formed in 1976 and is the futures industrys self-regulatory organization. The NFAs first regulatory operations began in 1982 and fall under theCommodity Exchange Actof theCommodity Futures Trading Commission Act.54

DoddFrank was enacted in response to the 2008 financial crisis. It called for strong measures to limit speculation in agricultural commodities calling upon the CFTC to further limit positions and to regulate over-the-counter trades.55

Markets in Financial Instruments Directive(MiFID) is the cornerstone of theEuropean CommissionFinancial Services Action Planthat regulate operations of the EU financial service markets. It was reviewed in 2012 by theEuropean Parliament(EP) and theEconomic and Financial Affairs Council(ECOFIN).56The European Parliament adopted a revised version of Mifid II on 26 October 2012 which include provisions for position limits on commodity derivatives, aimed at preventing market abuse and supporting orderly pricing and settlement conditions.57

TheEuropean Securities and Markets Authority(Esma), based in Paris and formed in 2011, is an EU-wide financial markets watchdog. Esma sets position limits on commodity derivatives as described in Mifid II.57

The EP voted in favor of stronger regulation of commodity derivative markets in September 2012 to end abusive speculation in commodity markets that were driving global food prices increases and price volatility. In July 2012, food prices globally soared by 10 percent (World Bank2012). Senior British MEP Arlene McCarthy called for putting a brake on excessivefood speculationand speculating giants profiting from hunger ending immoral practices that only serve the interests of profiteers.58In March 2012, EP Member Markus Ferber suggested amendments to the European Commissions proposals, intended to strengthen restrictions onhigh-frequency tradingand commodity price manipulation.59

Software for managing trading systems has been available for several decades in various configurations. This includessoftware as a service. So-called Energy Trading Risk Management (ETRM) includes software such asTriple Point TechnologyPioneer SolutionsSol Arc, andOpen Link.60One of the more popular soft commodity solutions is called Just Commodity, based in Singapore this application caters to a large number of palm oil, edible oil, sugar and wheat trading businesses.citation needed

This article covers physical product (food, metals, energy) markets but not the ways that services, including those of governments, nor investment, nor debt, can be seen as a commodity. Articles onreinsurance marketsstock marketsbond markets, andcurrency marketscover those concerns separately and in more depth.

In July 2009, when a high-frequency trading platform with proprietaryalgorithmic trading codeused byGoldman Sachsto allegedly generate massive profits in the commodity market was stolen bySergey Aleynikovthere was widespread concern about the unintended economic consequences of HFT.

Exchange Trad