What goes into a commodity trade?

What goes into both a physical and purely financial trade of commodities? i.e. what do you have to consider when deciding to make a trade in natural gas?

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Comments (37)

Jul 16, 2019 - 5:41pm

Bump. Here's what I have for a natural gas trade so far:
- Determining who the buyer/seller is and where they are located
- Figuring out how to get the gas from point a to point b; taking storage and pipeline capacity into consideration
- Figuring out any risks associated with the trade and how to hedge them

What am I missing?

Jul 16, 2019 - 6:40pm

financial is mostly technical analysis...everything you need to know is on the price/volume chart. when i trade crude oil...i'm just using a chart and basic news feed for "risk events"...nothing else.

it takes time to learn all the technical patterns...doing it in realtime during the trading day is a learned skill that takes years

just google it...you're welcome
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Jul 16, 2019 - 7:02pm

Couldn't disagree more about financial trading is all technical. For a gas trade you want to project what you think storage entry/exits are then run weather scenarios and see how that changes your storage balances then risk adjust your trades.

Jul 16, 2019 - 7:22pm

maybe depends on your time frame...my avg trade duration is 30 minutes

just google it...you're welcome
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Jul 16, 2019 - 8:04pm

Very different thought process go into fundamental vs technical strategies. Taking a fundamental look at a commodities market involves primarily looking at supply and demand and identifying what factors will disrupt the current equilibrium and drive a change in the trading range. Technical strategies, you're looking to ride momentum and unload volume quickly

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Jul 17, 2019 - 12:39pm

Depends what kind of shop. I'd definitely lean on the side of answering with fundamentals on average.

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Jul 17, 2019 - 2:42pm

Say physical like GS logistics team or Tenaska marketing, etc. How I'd plan on answering (same as above)
- Determining who the buyer/seller is and where they are located
- Figuring out how to get the gas from point a to point b; taking storage and pipeline capacity into consideration
- Figuring out any risks associated with the trade, such as weather and how to hedge them

Jul 17, 2019 - 7:58pm

Disclaimer, I'm a 20 year old intern so take whatever I say with a grain of salt.

From what I've seen in softs and biofuels, a physical trade starts either with attractively priced supply or attractively priced demand, and you work the other way from wherever you start. If you get an email with an inquiry for product at a good price, you work backwards to find supply that gets you a large enough margin to justify the transaction.

When calculating your margin, you primarily look at origin/destination basis (basis = spread between cash and futures) and freight rates. Producing regions usually trade their cash commodity at a negative basis, and you look for destinations where the spread between origin cash basis and destination cash basis exceeds the cost of freight to that region. Whenever physical product is purchased, it's always hedged, so you trade the basis instead of the flat price. That's essentially how a basic physical commodity transaction works.

For example, if I can buy corn at a river elevator for 5 cents below futures and sell it for 10 cents above futures into China, and freight cost me 8 cents, I'm making 7 cents per bushel of corn. You make money on the difference to futures because the futures priced is hedged as soon as you acquire the physical product.

On the futures side, you can take a fundamental strategy, trading the drivers of supply and demand in the global market, or a technical strategy, trading stochastics, resistance, trading ranges, and all that stuff where the underlying product doesn't really matter. It's hard to trade fundamentals without a background in the physical market.

Jul 17, 2019 - 2:35pm

my main market is US Treasuries...trading govt bonds, i've learned that my best trades (as a day trader) now are just following my gut after doing all the technical analysis (and of course, reading how the market reacts to economic data...whether the reaction is what i'd expect given the data, etc...

just google it...you're welcome
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Jul 17, 2019 - 12:37pm

Fundamentals. Learn the different Cal structures and what they mean.

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Jul 23, 2019 - 7:35am

Every person/client that i know who traded anything leveraged using technical analysis lost their money, every one of them.

You killed the Greece spread goes up, spread goes down, from Wall Street they all play like a freak, Goldman Sachs 'o beat.
Dec 4, 2019 - 5:09am

For physical the biggest trades are structured products for capacity and storage think open season from a pipeline , AMA from a utility. Capacity can be vanilla in that you can value it as an intrinsic spread between receipt (long) , and market (short). It's really a basis spread that you can hedge financially. The issue is if your bidding on capacity your more than likely not going to win it if you bid in the futures spread (intrinsic) because of how competitive it is. Most people bid in intrinsic plus. Anything above the intrinsic value of the capacity is going to be extrinsic value that can't be necessary hedged. That capacity now turns into an out of the money option. So what goes into the extrinsic value? For me when I look at extrinsic I see how it fits my portfolio , is there added synergies to my shorts (power load, retail load) or to my longs (producer services, storage). Can I segment the capacity and sell ancillary markets on top of the primary market I hedged? Finally is there optionality between other markets in the daily markets. I think Transco long haul is the best example of this, or even TETCO legacy capacity. Storage is whole beast in itself that is a out of the money option. You very rarely winning storage at intrinsic and your going to be wearing the extrinsic risk. Again storage you can hedge the summer , winter spread and set a optimal long / short schedule. From their your going to be trading cash to prompt/futures spreads. Moving around your futures trades via rolling intrinsic , or writing your own options by buying and selling months ie go long March / April spread. Some storages have optionality to deliver into different markets so you have that to trade as well. In my personal opinion any structured physical trade is just an option. A pure financial trade you have a lot more directional risk. Obviously it's a commodity so supply and demand have most weight into price action. Summer will be storage report and CDDs forecast for power demand , and winter will be HDDs for utility weather sensitive demand. HDDs have a lot more weight into price since demand as a steeper slope. Also timing is important a cold forecast in the beginning of winter is different than a cold forecast later in winter think of that price rally back in the beginning of November. I use very basic technicals as a compliment to fundamentals to see when the market is over sold / bought but strong fundamentals will win every time. That Friday sell off after thanksgiving is a good example ... market was way over sold and bounced right back on Monday , than Tuesday colder forecast came in and propped up the market even more. Obviously other fundamental factors like production output, rig count goes into. The production output is what's driving the bears right now keeping NG below $3.

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Dec 4, 2019 - 1:38pm

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Dec 4, 2019 - 1:47pm

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