Commodities

Introduction

Commodities are basic physical goods that play an important role in the global economy. They include precious metals such as gold and silver, energy products such as crude oil and natural gas, agricultural products, and industrial materials.

Unlike stocks, commodities do not represent ownership in a company. Unlike most bonds, they do not promise interest payments. Their investment returns are primarily driven by changes in market prices, which can respond to supply and demand, economic growth, inflation expectations, currencies, weather, geopolitics, and other factors.

In this section, you’ll learn how commodity investing works, why investors use commodities, and what makes different commodity markets distinct. For a more detailed introduction to the underlying markets, start with what commodities are and how they work.

What are commodities?

A commodity is a basic good that can generally be bought and sold in standardized markets. Individual units of the same grade are intended to be largely interchangeable, which allows commodities to trade based on defined specifications rather than the identity of a particular producer.

Commodity markets connect producers, commercial users, traders, and investors. An airline may want exposure to fuel prices for business reasons, while a mining company may want to manage the risk of falling metal prices. Investors can participate for different reasons, including diversification or an expectation that commodity prices will rise.

Because commodities are physical goods, their markets are influenced by factors that may have little direct effect on stocks or bonds. Inventories, transportation constraints, production disruptions, and seasonal demand can all matter.

Major types of commodities

The commodity universe is broad, but it is commonly divided into several major groups.

How investors gain commodity exposure

Investing in commodities does not always mean buying and storing the physical product. The practical methods available depend on the commodity.

Precious metals can be purchased physically as bars or coins, although storage, insurance, dealer spreads, and security become important considerations. For commodities such as crude oil or agricultural products, direct ownership is usually impractical for individual investors.

Commodity futures are another important route. A futures contract is an agreement to buy or sell a specified quantity of a commodity at an agreed price at a future date. Futures are widely used by commercial businesses and professional market participants, but leverage, contract expiration, and price volatility can make them complex and risky for beginners.

Investors can also use exchange-traded products or invest in companies whose businesses are connected to commodities. These approaches may be easier to access, but they do not necessarily produce the same return as the spot price of the underlying commodity. Our guide to how to invest in commodities compares these methods in more detail.

What drives commodity prices?

Supply and demand are central to commodity prices. If demand rises faster than available supply, prices may increase. If production exceeds demand and inventories accumulate, prices may fall.

The details vary considerably by market. A drought can reduce agricultural output, a mine disruption can affect metal supply, and geopolitical conflict can influence energy markets. Technological changes can also alter long-term demand for particular raw materials.

Many globally traded commodities are priced in U.S. dollars. Currency movements can therefore interact with commodity markets, although the relationship is not fixed and other forces may be more important at any particular time.

Commodities and inflation

Commodities are sometimes discussed as an inflation hedge because rising raw-material and energy costs can contribute to higher consumer prices. Certain commodities may perform well during some inflationary periods, particularly when supply shortages are part of the inflation story.

That does not mean commodities reliably rise whenever inflation is high. Commodity prices can fall because of weak demand, expanding supply, a stronger currency, or changing market expectations even while the general price level continues to rise.

Investors should therefore distinguish between a historical relationship and a guaranteed hedge. The behavior of an individual commodity can differ significantly from a broad commodity basket.

Why investors use commodities

One reason investors consider commodities is diversification. Commodity prices are driven by a different mix of factors than corporate earnings or bond yields, so their performance may sometimes differ from stocks and bonds.

Some investors also use commodities to express a view on inflation, economic growth, shortages, or a particular industry. Gold, for example, has a different demand profile from crude oil, while silver combines investment demand with substantial industrial use.

These differences mean that “commodities” should not be treated as one uniform investment. Each market has its own supply structure, sources of demand, and risks.

Risks of commodity investing

Commodity prices can be highly volatile. Unexpected changes in weather, production, inventories, economic conditions, currencies, or geopolitical events can cause rapid price movements.

The investment vehicle adds another layer of risk. Physical ownership involves storage and transaction costs. Futures-based funds can perform differently from spot prices because contracts expire and must be replaced. Commodity-producing stocks are businesses, so their returns also depend on management, costs, debt, operations, and broader stock-market conditions.

Commodities also generally do not produce cash flows simply by being held. Unlike a profitable company or an interest-paying bond, a bar of metal or a barrel of oil does not generate earnings on its own. Investors therefore depend heavily on future market prices for their return. The dedicated guide to the risks of commodity investing covers volatility, leverage, futures roll risk, storage, and other concerns in greater detail.

What you’ll learn in this section

Start with What are commodities? for a deeper explanation of commodity markets, spot prices, futures prices, and the main commodity groups. Then see How to invest in commodities for the differences between physical assets, exchange-traded products, commodity stocks, and futures.

The market-specific guides cover gold investing, silver investing, and oil investing. You can also explore agricultural commodities and livestock commodities to understand how weather, harvests, feed costs, and biological production cycles affect those markets.

Finally, Risks of commodity investing brings together the major risks that apply across physical commodities, futures-based products, and commodity-related companies.

Key takeaways

• Commodities are physical goods such as metals, energy products, agricultural products, and livestock.
• Commodity prices are strongly influenced by supply and demand, but currencies, weather, geopolitics, and economic conditions can also matter.
• Investors can gain exposure through physical commodities, futures, exchange-traded products, and commodity-related companies.
• Commodities may contribute to diversification, but they are not a guaranteed hedge against inflation or market losses.
• Different commodities can behave very differently because each has its own sources of supply and demand.
• Volatility, investment-vehicle structure, and the lack of inherent cash flows are important risks to understand.