Picking up where we left off on our last blog post: The oldest form of commodity trading is Futures Trading. This is where a contract is made that a buyer will be a set amount of a commodity in a certain, set point in the future. This may sound strange, but it works well in both parties favors:
- This allows the buyer to pay for a commodity once it has actually been produced or retrieved, rather than paying up-front for a commodity. It also provides a net of safety in case things go wrong on the seller/suppliers end.
- It allows the seller to set the terms of how long it will take him to produce the commodity and deliver it. It also provides them with a guarantee of payment if they are able to retrieve a commodity, therefore giving them a reason to do so if not already selling the commodity. This allows them to expand their business into new areas or industries by providing a guarantee of capital.
Now the question you’re asking yourself is why not just pay at the moment of contract? This is where we go into a little diversion.
How trading evolved
In previous civilisations, while commodities each held a certain value, different commodities took different amounts of time to create and while some commodities could be traded for work, or services on the buyers behalf, this wasn’t always practical. Let’s take a simplified example:
It’s Winter and a Hunter needed a new axe, to chop wood. They couldn’t provide their skills for the Smith as animals would be in hibernation. What is the hunter to do? Their only recourse, in this case, is to trade something that the Smith needs in exchange for the axe. What if the Smith needs nothing that the Hunter has? Well either the Hunter would have to trade with multiple people to get an item for the Smith, or he’ll have to wait for the Summer.
How would we solve this problem? By finding a commodity that everybody (the market) needs or wants, and providing that in exchange for the service, or axe. And thus currency was born.
Classical civilizations evolved Silver and Gold markets. Gold was especially useful as it was not only prized for beauty and its intrinsic worth, but its weight, malleability to be formed into shapes and natural scarcity. This meant that Gold became a tool to pay for services, and items, it became a natural trading asset and a “commodity money”.
From the start of the 10th Century, Europe was become increasingly connected, urbanized and commercialised, which meant trading no longer just happened at the capital cities and hubs, but also in towns and villages. This lead to a national market for the exchange of commodities, which then evolved into what is thought as the world’s first stock exchange: The Amsterdam Stock Exchange.
The Amsterdam Stock Exchange created sophisticated tools of trading such as Options, Short sales, Forward Contracts and others, and is really where the modern system of trading began.
Of course, during all of this, standards were needed to be kept on commodities, so that one man’s version of a kilogram of Gold was the same as another mans, and thus when trading between different cities and countries, commodities and money would have the same intrinsic value. Though of course the relative value of each item would be different to each trader, as some would be more in need of Wheat than others, thus increasing the value. This meant there was a need for standardisation and regulation and so trading was made fairer for all.
Now we’ve explained the history of trading and what commodity trading is, in our next blog post, we can finally go into how you can trade on the commodities markets and what your chocies are! Stay tuned for the next post!