How commodities move the markets

Thanks to fluctuating levels of supply and demand, commodity prices are constantly on the move. But when commodities make significant steps up or down, how are other financial markets affected?

Source: Bloomberg

Commodities are often referred to as the building blocks of the global economy – bought and sold by businesses around the world, then used to make buildings, medicines, technology, fuels and more. So when a particular commodity goes on a bull or bear run, the effects can reverberate further than you first think.

Hard commodities

Perhaps the most important materials for industry, hard commodities are usually mined (or drilled, in the case of oil). Price movements in many hard commodities can play out across stock markets in a major way.

Crude oil and precious metal futures are usually traded on the New York Mercantile Exchange (NYMEX), as are copper futures. Other base metals tend to trade on the London Metal Exchange.

Oil and precious metals

Precious metals and oil are the most important commodities to global industry, and as such, probably have the widest impact on other markets. Rising oil prices, for instance, won’t only be felt by companies in the petroleum industry. Airlines, plastics manufacturers, and any business involved in large scale transport could be affected.

Much is often made of how a rising US dollar can hurt oil and precious metals, but commodities can impact forex prices too. Take the Australian dollar, which often follows movements in the price of gold, because Australia is a major gold miner.

Base metals

They might not share the high value and status as their precious cousins, but the importance of base metals to the global economy shouldn’t be overlooked. Copper, aluminium, lead, nickel and zinc all have industrial uses that stretch far and wide.

For example, copper’s conductivity means that is used as a building material, and in the manufacturing of cars. So homebuilders and the automotive industry could feel the benefits if copper drops in price.

Copper also shares an interesting relationship with another metal: silver. For one thing, sterling silver is made using copper, meaning copper is often used in the jewellery industry. And on top of that, 26% of silver mining comes from copper ore. So if copper’s price spikes and production increases, silver could become surplus and fall in value.

Soft commodities

Soft commodities – that is, those that are grown instead of mined – are often overlooked by traders in favour of oil, gold and silver. But they play a pivotal role in a wide range of different industries, and as such, price movements can trickle down to stocks, indices and more.

Futures contracts on soft commodities tend to trade on either the London International Financial Futures and Options Exchange (LIFFE) or the Intercontinental Exchange.

Lumber prices

Lumber is one of the most widely-used raw materials on the planet, but is surprisingly overlooked by many traders. The sheer amount of lumber used in constructing new buildings, as well as furniture and decorations, makes even small changes in lumber prices important to any company planning on building new structures.

Of course, lumber stocks and construction companies will feel rising wood prices first – but if any company is planning on expanding with new construction, then a higher lumber price could make things much more expensive.

How do falling lumber prices affect markets?

Falling lumber prices tend to make constructing new buildings cheaper. That’s good for homebuilders, but bad news for lumber stocks, who can no longer sell the commodity at previously high prices.

It isn’t just lumber stocks that can feel the effect from falling prices. Timber is a key resource for many economies – so like gold and oil, a significant bear market for lumber could conceivably hit a country’s currency.

Cotton prices

The biggest use for cotton is in clothing, so when cotton prices are on the rise clothing manufacturers and retailers may have to bear the brunt of more expensive materials. When material prices increase, companies have two options: raise prices accordingly, or take a hit on profits. If they raise prices, sales may suffer.

Cotton may have the biggest effect on clothing companies, but watch out for its other uses: including fishing nets, tents and coffee filters.

Coffee price

Like oil, rising coffee prices can often be felt directly in consumer’s wallets as their regular cup goes up in price. It can also prove troubling for major coffee outlets like Starbucks, hurting their bottom line. As ever, the opposite is also true, with a sustained bear run in coffee prices helping coffee sellers improve profits.

Corn prices

Corn is more useful than it may first appear. Not only is it a major foodstuff, but it can also be used to create corn ethanol – an alternative fuel that has been growing in popularity in recent years.

If corn is used more as a fuel, it could drive up prices. That would be bad news for food producers and retailers, and could see stock market volatility. And if biofuel proves a viable alternative to traditional resources, then the global economy could shift in a big way.

Wheat prices

Wheat is a staple food across the planet, used in both bread and a huge range of processed foods. It’s also widely traded – more wheat is bought and sold around the world than any other crop.

With such a key role in our diets, rising wheat prices could raise the price of manufacturing a lot of foods. And again, any company involved in making or selling those foods would have to either increase prices, or see their profits take a hit.

What makes commodity prices move?

The single biggest driver of commodity price movement is supply and demand. Supply and demand levels will rise and fall for a huge range of reasons – and each commodity you can trade will have different factors that affect its price.

Find out more about what moves prices for precious metals or oil.

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