Tips for commodity traders to avoid facing default or paying penalty

By Dana Smith

Commodity trading brokers understand the nature of each commodity and what it takes to trade them effectively. Deadlines must be met and each type of commodity is regulated in such a way as to maintain fair and equitable trading for every person involved in the market. Whether a person trades occasionally or has made it their life’s work, trading can be extremely profitable if the risks are understood and balanced with moderation and effective planning. Commodity trading brokers can help clients invest their money wisely and reduce the risk they open themselves up to.
Energy Contracts Are Settled in Cash

Unlike metal commodities which are delivered in gold, energy commodities such as crude oil and natural gas are dealt with in cash. Individuals who are interested in trading crude oil futures must have adequate amounts of cash to cover each transaction. Day to day margins must be covered at the close of business. If a margin is short, the broker must cover the shortage in cash at the close of business.

Margins are created to reduce the overall risk when trading specific types of futures, especially energy and food commodities. The average amount of each margin is 5 to 15 percent of the total value of the contract. When margins are established, several things are taken into consideration such as the nature of the commodity, its overall value and the level of risk involved.
Know All of the Charges Associated with a Specific Type of Commodity

Crude oil futures trading may involve commodities transactions taxes, brokerage taxes as well as exchange charges. While most transactions involve some type of tax, energy and fuel sources carry specific taxes and charges that pertain only to their industry. Many of these charges come from the government and are designed to regulate the import and export of the commodity.

Surcharges are often added by the market themselves, as a way of maintaining specific margins and reducing trade risks. Brokerage firms will also add surcharges as a way of protecting the company’s assets and ensuring fair trade practices among its brokers and agents.
Understand the Risk Involved

Few trades made at a market exchange are guaranteed to return a profit on the original investment. The fact that, depending on the day’s trading trends, some transactions which seem extremely lucrative can take a negative turn within a few short hours. Crude oil futures trading can be affected by many factors including global disputes over who owns the oil, where it is drilled and what value is placed it. Supply and demand are also influential.

The import and export of crude oil is one of the largest commercial enterprises in the world. Trading between two or more countries at a time can lead to large fluctuations across multiple global markets. The large demand for gasoline and other petroleum products can greatly increase the risk involved with crude oil trading. When demand is high or if fighting breaks out that involves the general area where the crude oil is drilled, the risk of trade can double or triple in a day’s time. Prices rise and fall along with supply and demand. With each variation, the risk incurred during trading must also be adjusted.
Employ a Knowledgeable Broker

Commodity trading brokers are put in charge of large amounts of money and property. It is up to them to trade commodities effectively to ensure their clients a return on their initial investment. If you plan on placing any funds with a broker, you need to make sure they are qualified, as well as have a solid reputation with their other clients and brokers who work within the market. A few things to note are:

  • Above average reputation.
  • Excellent track record when it comes to wins and losses in the market.
  • Accurate record keeping along with regular updates on how commodities and clients’ accounts are faring in the market.
  • Properly licensed and bonded to trade stocks and make third party investments.

Commodity trading brokers who have a solid reputation for honest and effective trading will have no problems answering their clients’ questions and showing them updated copies of their portfolios. They are up front about brokerage and transaction fees and will explain each one in great detail so the client understands the purpose of the fee and why meeting payment deadlines are important.

Commodity trading brokers, who fall behind in payments of fees, taxes and other charges, can end up paying stiff penalties for their actions. During a margin call, if a margin is short at the end of the day and the broker does not have the cash to pay the fee, their seat on the exchange can be sold. Margin shortages are expected to be paid at the close of each day. Defaulting on the payments of charges and fees incurred during trading can not only jeopardize the broker’s ability to trade, it can also put their brokerage house out of business.

Disclaimer – Trading Futures, Options on Futures, and retail off-exchange foreign currency transactions involves substantial risk of loss and is not suitable for all investors.  Past performance is not indicative of future results. You should carefully consider whether trading is suitable for you in light of your circumstances, knowledge, and financial resources. You may lose all or more of your initial investment. Opinions, market data, and recommendations are subject to change at any time.