What are commodity stocks and how do you trade them?

What are commodity stocks?

Commodity stocks are companies involved in the excavation or nurturing of natural resources that are processed and packaged for resale. There are two types of commodities: hard and soft.

Hard commodities are natural metals that are mined or extracted from the planet – such as gold, oil, copper and natural gas. Soft commodities are nurtured and grown raw material – such as coffee, wheat and lumber – or reared, such as hogs and cattle.

When trading, it’s important to note that the relationship between commodities and stocks is not linear. Some commodity prices have an inverse reaction to stocks, while others move in a parallel direction.

There are several factors that impact the price of the underlying commodities and stocks, such as market forces, weather patterns, and economic and political stability.

For example, when there’s a surge in inflation, commodity share prices generally come down as a response to changes to the dollar's value in the international markets.

In the same breath, you can trade on commodity stocks like gold producing companies that are often used as a hedge against inflation.

Trading commodity stocks vs. commodities

Commodity trading is based on the price of the underlying commodity itself. On the other hand, commodity stocks are just linked to the physical commodity’s performance in the market.

Commodity prices are generally influenced by supply and demand, weather patterns, or economic and political changes. Getting exposure to stocks is different from taking a position on the commodity itself.

Depending on the type of commodity, the price tends to go up or down based on certain global climate changes that are conducive to nurturing certain raw materials – which sees the demand surge.

Similarly, when there’s political or economic instability or unfavourable weather conditions to crops, soft commodity share prices drop. Also, when people scramble for natural gases and precious metals during times of uncertainty – the price of hard commodities tends to rise.

You can decide to trade individual company shares, but you can also trade exchange-traded funds ETFs or funds that track a basket of commodity shares. While the stock price will trend based on the condition that influence the commodity, there’ll be other external factors that influence the trajectory of the company’ share price.

For example, the price of oil and stocks generally display an inverse relationship, with a rise in the commodity price linked to a weakening stock market. Typically, varying fundamental analysis metrics like price-to-earnings (PE) ratio tend to make stocks a viable hedge against changes in commodity prices.

Learn about commodities and how to trade them

How to trade on commodity stocks

You can trade on commodity stocks to get exposure to the company that mines or produces the raw material by using our trading platforms. When you buy commodity stocks, it’s important to remember that you won’t take outright ownership of the physical gold bar or sack of rice.

Trade commodity stocks using CFDs

With us, you’ll trade the price movement of the commodity stock using CFDs. You’ll enter into an agreement to exchange the difference in price from the point at which the contract is opened to when it’s closed. If you think that the price of the underlying will rise, you’ll go long and if you think that it’ll drop, you’ll go short.

CFDs can be a useful tool to hedge your initial position to offset any potential losses. They can also be traded on leverage to magnify your profits with just a fraction of the size value to open the position.

Remember that while leverage can amplify your profit, you stand to lose far more than your initial deposit. That’s why you need to take steps to manage your risk effectively.

Examples of commodity stocks

Freeport-McMoRan

Freeport-McMoRan is a mining company that produces copper, gold and many other metals. In the advent of Covid-19 and the political instability that followed, the company has maintained steady growth.

Freeport-McMoRan has positioned itself as a popular stock to hedge against periods of uncertainty for a while now. Since 2016, Freeport has cut its net debt to $1 billion from $20 billion.³ Additionally, copper demand for electric vehicles is expected to rise to 1.5 million tons by 2025.⁴

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Chevron

Chevron is a titan in the energy sector, an industry that saw a surge in oil and gas prices as Europe and the rest of the world scrambled to find an alternate source for fuel after moving away from Russian provisions.

In Q2 of 2022, Chevron posted earnings of $11.64 billion in a space of three months, up from the $3.08 billion reported in Q2 of 2021.5 The performance was due to high demand in fuel, with the entire energy sector showing growth of 35%.⁵

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Rio Tinto

Rio Tinto is a renowned mining firm that processes minerals such as copper, aluminium, gold and many other metals. In its 2021 annual report, iron ore was the most traded mineral ($39.6 billion), followed by aluminium ($12.7 billion) and copper ($7.8 billion).⁶

On 17 November 2021, Rio Tinto reported that it would invest $87 million towards its smelter in Canada to increase low-carbon aluminium production. The investment is expected to increase production at the smelter by 45%.⁷ If predictions are realised, Rio Tinto expects a strong performance in 2023 financial year.

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Commodity stocks summed-up

• Commodity stocks are companies that specialise in the extraction or nurturing of natural resources that are processed and packaged for resale

• Trading on stocks is different from the commodity itself, with certain sectors having low correlation to changes that affect the commodity

• With us, you can speculate on commodity stocks price movements by taking long or short positions – without taking outright ownership

• You’ll use our CFD trading account to get exposure to commodity stocks

• Commodity stocks such as Freeport-McMoRan, Chevron and Rio Tinto are just a few names that’ve been able to remain profitable in times of uncertainty

Footnotes
¹ Trade in your share dealing account three or more times in the previous month to qualify for our best commission rates. Please note published rates are valid up to £25,000 notional value. See our full list of share dealing charges and fees.
² Tax laws are subject to change and depend on individual circumstances. Tax law may differ in a jurisdiction other than the UK.
³ Barron’s, 2022
⁴ Yahoo Finance, 2022
⁵ CNBC, 2022
⁶ Rio Tinto, 2022
⁷ Yahoo Finance, 2022