Dion Morrell, age 13, of Decatur, I11., for his question:
WHAT IS A COMMODITY EXCHANGE?
A commodity exchange is an organized market for agricultural goods, especially grains. Commodity exchanges, also called boards of trade or commodity markets, provide a market for goods (commodities) in much the same way stock exchanges do for stocks and bonds.
The chief commodities bought and sold on exchanges include barley, corn, cotton, oats, soybeans, soybean meal and oil, and wheat. Other goods traded on commodity exchanges include beef cattle and hides, butter, coffee, eggs, pork products, sugar and such metals as copper, gold, lead and tin. The Chicago Board of Trade is the largest commodity exchange in the world.
Commodity exchanges are actually voluntary trade associations. They are called organized markets because all members must follow certain trading rules.
All business, for example, must be conducted on the trading floor within certain hours. Rules set the commission or fee that may be charged in a transaction and the time within which payment must be made. Federal laws regulating commodity trading are administered by the Commodity Futures Trading Commission, an independent agency of the U.S. government.
Most commodity markets deal only in cash trading. Cash trades involve buying and selling real commodities. The sale contract may call for immediate delivery or for delivery at a specified future date. The contract is fulfilled by actual delivery of the product.
Buyers of commodities represent milling and processing companies, exporters or owners of terminal storage facilities. Sellers represent farmers or owners of rural grain elevators.
Government certified samples of grain available for immediate delivery are kept on the trading floor for inspection by interested buyers.
The largest commodity exchanges also have futures, or contract markets. In these markets, traders buy and sell contracts to receive or deliver a certain quantity and grade of commodity at a specified future
time. The contract price is determined by a public auction held in a pit or circle on the exchange floor.
Unlike cash trading, futures trading seldom results in the actual exchange of a commodity. At any time before the delivery month, a trader can cancel out a contract by buying or selling an offsetting contract of equal amount for the same delivery month.
For example, suppose a trader buys a futures contract for 5,000 bushels of wheat at $3.75 a bushel to be delivered in September. But in July, September wheat futures are selling for $3.80 a bushel. The trader decides to sell 5,000 bushels of wheat futures for September delivery. The two contracts offset one another, and the trader makes a profit of five cents a bushel, or $250.
Trading in futures contracts generally falls into two broad areas: speculative and hedging.
Speculative trading is buying or selling futures contracts in hopes of making a profit from future price changes. Such traders, called speculators, try to forecast prices months in advance and they buy or sell on the basis of these estimates.
Hedging occurs when owners of a commodity buy or sell futures contracts to reduce risks caused by price changes. By hedging, the commodity owners shift that risk to speculators.