Equity and Commodities both are different types of asset classes that are used by investors to earn profits. However, there are certain differences between the two that make them provide different returns to investors. Therefore, it is important to understand the differences between the two to identify which is a better investment for you.
What is an Equity?
Equity represents ownership of a company. They are traded in the form of shares of a company from the stock market. The owner of the shares is a shareholder in the company. Shares can be bought and sold in any quantity at the price at which they are traded on the stock market. The shareholders can hold these shares for an indefinite time period and can choose to sell whenever. Also, the price of shares is never fixed. They are bought and sold at the price at which they are being traded in the market.
What is a Commodity?
Commodities are products used in daily life like cotton, wheat, oil, gold, etc. Commodity trading is not traded with the actual products. These contracts have a specific time period, quantity, and a set future price. After the set date, these contracts expire and are invalid.
Let’s consider an example to better understand. An investor purchases an Oil future 1-month contract for $ 100. This contract will expire within one month after which the contract will cease to exist.
Important Considerations before Investing in Equity or Commodity Markets
- Interest rates are very important and have a direct impact on these investments. Therefore, it is very important to consider the interest rate. The interest rate fluctuations not only affect the rate-sensitive stocks but the stock market as a whole.
Also, interest rate fluctuation leaves an impact on commodity prices; it changes the holding cost of the inventory of these commodities.
- Since the commodity market is about daily-use products, the demand and supply of these products control the market. On the other hand, the equity market moves with the overall economic situation plus the company’s performance.
- Having a certain amount of risk tolerance is imperative in order to invest in both these asset classes. Both carry a certain amount of risk.
- Always keep your financial objective in mind before investing in any asset class. Not every investment type is for every investor. Equity investments serve long-term objectives whereas commodity trading is best suited for short-term objectives.
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Major Differences between Equity and Commodity
The key differences between the two are:
| Sr. | Difference | Commodity | Equity |
| 1 | Nature of Investment | Commodities are daily-use products on which investors take positions. | Equity refers to investment in a company in order to acquire ownership. |
| 2 | Trade Mechanism | Commodities are traded through futures contracts and options. | Equity is in the form of shares that are traded on the stock exchange during trade hours. |
| 3 | Usefulness | The main use of commodity contracts is that it is mainly used for hedging to limit losses or making quick profit based on speculation. | The main use of equity is voting rights and a share in the profits of the business. |
| 4 | Time | Commodities contracts have a particular time duration. Beyond the set time period, the contracts expire and are no longer valid. | Shares continue to trade on the stock market for an indefinite time period. And investors can buy and sell according to their will. |
| 5 | Classification | Commodities are classified into four: precious commodities, base metals, energy, and agricultural commodities. | Equities are classified based on their capitalization into large-cap, mid-cap, small-cap, micro-cap, etc. |
Equity refers to investment in the company. An investor may find the company’s profits attractive or find growth potential in its business. Hence, they choose to invest in the company’s shares and can enjoy returns in the form of dividends and capital appreciation. An investor can choose to hold his shares for as long as he wants and can sell at whatever price it is trading on the stock exchange.
The equity market is comparatively less volatile. And they are less risky. Equity investment can be made by purchasing just 1 share. The major factors influencing this market are macroeconomic factors and the company performance. In comparison to commodities, they are more predictable and hence less risky.
Equity investments are categorized according to the size of the company the investor is buying shares.
- Mega Cap – Companies with a market cap of $ 200 billion or higher
- Large Cap – Companies with a market cap of $ 10 billion to $ 200 billion
- Mid-Cap – Companies with a market cap of $ 2 billion to $ 10 billion
- Small Cap – Companies with a market cap of $ 300 million to $ 2 billion
- Micro Cap – Companies with a market cap of $ 50 million to $ 300 million
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For example, Investor A purchases 500 shares of Company X at $ 25. He is now a shareholder of the company X He continues to hold them. At the end of year 1 the price of 1 share was $ 29; at the end of year 2 the price of 1 share was 35. Every year, the company’s stock price is increasing. Investor A can choose to sell his investment at any time and cash out the profits. Companies also share profits with shareholders in the form of dividends.
Commodities, on the other hand, are basic products like oil, wheat, and gold. Investors take future positions on these products which are time bound. Commodity contracts were introduced mainly for hedging and limiting losses from unexpected market movements due to unavoidable and unforeseen circumstances.
The commodity market is highly volatile and highly risky. Commodity trades are undertaken in huge lot sizes. Hence, more money is at risk, as compared to the equity market. This market is highly influenced by the demand and supply which makes this market more volatile and riskier. Also, the commodity market is less liquid as buy and sell have to occur in huge lot sizes.
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Commodities are majorly categorized in the following categories:
- Softs (cocoa, coffee, cotton, orange juice, sugar)
- Livestock (feeder cattle, live cattle, lean hogs, pork bellies)
- Energy (Brent crude oil, WTI crude oil, gasoline, heating oil, natural gas)
- Metals (steel, copper, iron, gold, nickel, palladium, platinum, silver, aluminum)
- Other (lumber, rubber, wool)
For example, Farmer A has wheat fields. His wheat will be ready in around 45 days. The price of corn for a 45-day futures contract is trading at 500 per unit, and the current spot price is 400 per unit. The farmer can hedge their position using the 45-day futures contract and avoid any uncertainty. Therefore, a commodity contract helps producers limit any downside risk arising because of unavoidable circumstances. After 45 days this future contract will expire and the farmer will receive the predetermined price per unit.
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Commodity Trading Tips
Commodities are traded on an exchange through futures contracts, stocks, and ETFs, while they can also be bought and sold in their physical states. A commodity exchange is an exchange, or market, where various commodities are traded. Trading on an exchange includes various types of derivatives and contracts based on these commodities, such as forwards, futures, and options, as well as spot trades
The largest commodity exchanges in the world are:
- CME Group
- Tokyo Commodity Exchange
- Euronext
- Dalian Commodity Exchange China
- Multi Commodity Exchange
- Intercontinental Exchange
- Africa Mercantile Exchange
- Uzbek Commodity Exchange
In order to make the best of your trades, match your goal with risk tolerance. Depending upon your tolerance for risk and favored commodity, there are 6 ways investors can trade commodities:
- Traditional stock ownership of a commodity producer
- Exchange-Traded Funds (ETFs)
- Mutual, managed, or index funds
- Contracts for Difference (CFDs)
- Options on Futures
- Futures Contracts
Read on to learn the top commodity trading tips:
- Trade on volatility – Volatility is always an opportunity for gain. Market sentiment and the ability to forecast changes in demand and supply are extremely important.
- Seasonal characteristics – Many commodities exhibit seasonal trends. While short-term-focused traders rely on volatility, swing, and position traders opt for following the ever-developing trends over time.
- Technical Analysis – A good technical analysis is very important for entry and exit in commodity trading. One key indicator is the 200-Day Moving Average for assessing longer-termed trends in the making
- Follow the trends – Trend-following trading strategies offers the most consistent rewards. Trends are generally driven by demand and supply forces, which may vary based on the strength of an economy.
- Keep track of the lot size of your commodity – Position sizing is very important. There are appropriate times when increasing your position size makes sense.
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Equity Trading Tips
Equity investment is a thrilling yet challenging experience. But it is also a complex way of investing. However, once you get to understand how the dynamics of the stock market work, the chances of growing your money are real.
Here is the list of the top 10 exchanges where equity trading is done:
- New York Stock Exchange (NYSE)
- National Association of Securities Dealers Automated Quotations (NASDAQ)
- Tokyo Stock Exchange (TSE)
- Shanghai Stock Exchange (SSE)
- Euronext
- Hong Kong Stock Exchange
- London Stock Exchange (LSE)
- Shenzhen Stock Exchange
- Toronto Stock Exchange (TSE)
- Bombay Stock Exchange (BSE)
The two most common options to invest in equities are:
- Equity Shares
This involves purchasing shares of a company from the stock market. It involves owning a portion of the company’s value.
- Equity Mutual Funds (MFs)
Mutual funds are a collective investment option. Money from several investors is pooled and then invested across a basket of securities which includes bonds, stocks, securities, etc. EMFs are a diversified bunch of shares from various companies.
Trading at the stock market should be done with great thought and planning. The aim behind every investment is to create an additional source of income and generate a good rate of return. Therefore, it should be carefully executed.
Here are some of the best trading tips in the equity market:
- Have a plan – Entering the equity trading world without any plan is financial suicide. So be clear about your financial goal.
- Practice disciplined trading – An investment strategy that aligns with your needs and goals is the key to successful trading. Once you have defined it, practice your trades in a disciplined manner and stick to your strategy.
- Avoid herd mentality – Following a market trend because everyone is following it is one of the worst financial moves. Always do your research and keep up with all the latest news in them and don’t hesitate to combine this with help from a financial advisor
- Diversification – “Don’t put all your eggs in one basket” is one of the pertinent pieces of advice given to every investor in the trading community. Therefore, always keep your portfolio updated and growing.
- Long-Term Investment – History proves that long-term equity investment has proven to yield higher returns.
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Conclusion
Commodities and Equity are both different investment instruments that assist investors in earning better returns on their investments. However, there are certain differences between the two which caters to different type of investors and their different needs.
Investors can choose between the two according to their risk tolerance and investment needs. A popular strategy in the stock market is to buy and hold for a long duration which is not possible in the case of commodity trading. The commodity market is a better choice for investors eyeing short-term gains.
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