When you look around, almost everything you see is built from or powered by raw materials. Whether it is gas in the tank, the coffee in your cup, or aluminum like the kind produced on a massive scale in Sunndal, everything starts as a commodity. A commodity is a basic good that is almost exactly the same no matter who produces it.
"Divine supply is always present; all we need to do is recognize it."
— Florence Scovel Shinn
In the financial world, we often divide commodities into two main groups:
- Hard commodities: These are natural resources that must be extracted or mined from the earth. Examples are crude oil, natural gas, gold, silver, and copper.
- Soft commodities: These are agricultural products that are grown or bred. Examples are coffee, wheat, corn, sugar, and live cattle.
How do you invest in commodities?
Fortunately, you do not have to buy a thousand barrels of crude oil and store them in your backyard to invest in oil! Most investors buy commodities through financial instruments (like ETFs or mutual funds) that track the price of the commodity, or they buy shares in the companies that extract the raw materials (for example Equinor for oil, or Norsk Hydro for aluminum).
Protection against inflation: Commodities are very popular among investors when prices in society rise (inflation). When bread and gas become more expensive, it often means that the price of the raw materials wheat and oil is going up!
Pros and cons
Advantages
- Provides good protection against inflation, since commodity prices often rise when the cost of living increases.
- Helps you spread the risk (diversification) because commodities often move independently of the stock market.
- High global demand as the world population and standard of living grow.
Disadvantages
- Prices can fluctuate wildly and unpredictably (high volatility) based on weather, war, or politics.
- Commodities do not pay dividends like stocks can. You only make money if the price goes up.
- It can be complex to invest directly in commodities via financial contracts for beginners.