18.6 Commodity as an investment opportunity
Commodity trading carries a lower downside risk than other asset classes, as pricing in commodity future is less volatile compared to equities and bonds. While the average annual volatility is 25-30% in benchmark equity indices like the BSE Sensex or NSE’s Nifty, it is 12-18% in gold, 15-25% in silver, 10-12% in cotton and 5-10% in government securities.
According to study, if an investor had put his money only in silver and bonds from 1997-2003, his absolute returns would above been 24%. Commodities are also good bets to hedge against inflation. Gold offers good protection against exchange rate fluctuations and, in particular, against fluctuations in the value of the US dollar against other leading currencies. However, unlike stocks, commodity prices are dependent on their demand-supply position, global weather patterns, government policies related to subsidies and taxation and international trading norms as guided by the World Trade Organization (WTO).
DIFFERENCE BETWEEN STOCK AND COMMODITY DERIVATIVES
| STOCK DERIVATIVES |
COMMODITY DERIVATIVES |
| Underlying asset is a stock. |
Underlying asset is a commodity |
| It is an integrated approach and has a common index. |
Does not have any common index. |
| FIIs are dominant in stock derivatives markets. |
Do not have any influence on the commodity derivatives markets. |
| In case of stock derivatives, at the end of the expiry date, the possibility of physical transfer of the underlying asset is very rare. |
In the case of commodities derivatives there is a greater possibility. |
| Price volatility is much higher. Therefore, risk is higher. |
Price fluctuation is not that critical. Therefore, comparatively lower risk. |
| Have the same term period for all contracts. |
Contract term is longer/differs from one commodity derivatives to other Commodity derivatives. |
| All stock derivatives (Futures & Options) expiry date are on the same date. |
Expiry date varies from contract to contract |
| Stock derivatives (Futures & Options) contract specifications are same to all stock derivatives. |
Contract specifications vary from contract to contract. |
| Beta is significant in stock derivatives markets |
Beta is insignificant. |
| Index for individual stocks does not exist. |
Index for underlying assets and index for derivatives exists. |