Commodities

The main derivative of the commodity is the future. It was one of the very first derivatives and started as a tool to allow farmers to achieve a predetermined price for their produce by selling it for a fixed price for delivery in the future. The price of a future moves directly in line with the underlying asset.

All derivatives:

• are volatile and investors can suffer a total loss of their investment;
• derive their value from an underlying asset or group of assets; and
• come in one of two forms:
• exchange traded: traded on an exchange, with each derivative having precisely defined parameters;
• Over The Counter (OTC), effectively a customised derivative, they are purchased direct from the issuer and there is no structured market place where they can he bought or sold.

Derivatives are not suitable investments for the majority of private investors due to the complexity of the instruments, the high levels of risk and the complex relationships between the value of the derivative and the value of the underlying asset.

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