Building a Commodity Trading Strategy

When building a commodity trading strategy, you should start by conducting proper research about the commodity you want to invest in. A good place to start is by reading reports compiled by research companies and brokerage firms. You should also follow daily commodity-related news from reputable financial news providers.

Types of Commodity Trading Strategies

When deciding when to enter and exit the market, most commodity traders rely on technical analysis to help them pinpoint the ideal time to make their moves. However, technical analysis is only part of the picture. You also need to rely on fundamental analysis of macroeconomic events and the principles of supply and demand which may provide critical analytical information that will help you make the best trading decisions. Once you decide on a trading strategy, you can test it on Plus500’s Free Demo Account to see if it holds out under simulation. The Plus500 trading platform offers over 90 advanced technical indicators, including volume indicators, as well as a real-time Economic Calendar that covers important events and releases that can be used for fundamental analysis. In addition, you can refer to news outlets to get a gist of the market’s condition. To do so, you can also read Plus500’s up-to-date free News and Market Insights articles.

Illustrative prices.

Range-Bound Trading Strategies

Range-bound trading is a strategy that involves the buying and selling of an asset over a short period of time. You might open a buy position on a financial instrument that is priced at $20, thinking that it will rise to $40, and trade it from $20 to $40 until you believe that it will not be able to sustain that range. In other words, with range-bound trading, you are essentially trying to execute your trades (opening or closing your market position) close to the bottom end, the support level of a price range or sell at the top end, the resistance level of the range. The key to the success of the range trading strategy is to be able to correctly identify overbought and oversold market conditions. To do this, traders can use technical indicators such as the Relative Strength Index (RSI), Stochastics and Momentum indicators to help measure the levels of overbought and oversold market conditions.

Breakout Trading Strategy

A breakout strategy waits for a security to move beyond levels or areas it has been unable to move beyond for a while until its price moves past that limit and reaches a breakout. In other words, breakout trading is an attempt to enter the market when the price of a stock moves outside a defined price range. A breakout is when the price of a stock moves outside a defined support or resistance level with increased volume, and breakout trading is generally described as when a trader takes a long position after a stock price “breaks” above resistance or takes a short position after a stock “breaks” below support. If the market trades above well-defined resistance levels (trading to new highs), heavy short covering will result in the market trading substantially higher. Conversely, if the price of an instrument breaks through well-defined support (new lows), liquidation of long positions will result in a sharp move lower.

If you are looking at new highs, you will be looking to open a buy position on the commodity (‘go long’). On the other hand, if you are looking at the price of the commodity making new lows, you will be looking at opening a sell position on the commodity, i.e. ‘go short’.

Technical analysis is used to identify certain “Breakout” levels.

Trading Strategy Based on Fundamental Analysis

When trading breakouts or ranges, traders should attempt to follow certain rules with regards to the timing of Buying and Selling in order to attain some level of success. This same principle goes for fundamental analysis. Fundamental analysts believe that certain financial assets are wrongly priced during a specific time-frame and that their price will eventually be “corrected” in the long run. With fundamental analysis, your focus should be on the supply and demand of the commodity that you are interested in trading. For example, let’s say you want to trade Oil following news that war has broken out in a major oil-producing country in the Middle East or for example, the war that broke out in Ukraine in February 2022. Your fundamental analysis may indicate that the supply of crude oil will be reduced, leading to a possible shortage in the market and hence a hike in prices. Fundamental analysis might prove a little challenging as it requires a basic understanding of macroeconomic principles.

Risk Management in Commodity Trading

In addition to having a proper commodity trading strategy, it is also crucial that you have risk management strategies in place in order to attempt to minimise your potential losses. Commodity markets are highly volatile, and unfavourable price movements can wipe out your entire account balance if you fail to monitor any significant threat to your open position. Some of the tools that you can employ to help you manage your risks when trading CFDs on Commodities are the ‘Stop Loss’ and ‘Trailing Stop’ orders. With a Stop Loss in place, your position will be automatically closed once the market price reaches your nominated price. However, it’s important to remember that a ‘Stop Loss’ isn’t guaranteed to execute at your exact price as sometimes prices can “gap” due to slippage. If you want to make sure your trade closes out at an exact price, Plus500 also provides a ‘Guaranteed Stop’, which can be activated at an additional cost. A ‘Trailing Stop’ works in a similar manner as a ‘Stop Loss’ order, except that a limit is set as a percentage in point (or pip) - as opposed to an absolute figure.

This article contains general information which doesn't take into account your personal circumstances.