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When considering an investment in commodities, or any
asset class for that matter, make sure that you chose liquid

instruments so that you are able to buy and sell without
problems and at the cheapest cost in terms of execution.

Liquidity is a measure of how easily an asset can soybeans, bag of coffee or even a herd of cattle’s within the same sector that have differing degrees
be exchanged. It essentially means how quickly are examples of the physical staples that are at of liquidity. There are examples in all of the major
you can get money out of it. Your investments the heart of the commodity markets. Other than sectors including other metals, energies, grains,
can be said to have a stronger liquidity when you these physical assets, everything else that trades soft commodities and animal proteins or meats.
can quickly convert them into the cash. Cash is a derivative- an instrument with a price that In order to distinguish between commodity
and commodity, usually have a high liquidity reflects the value of the underlying hard asset, markets that are liquid and those that are not,
because they are really easy to access and trade. the commodity. Physical commodity trading certain requirements are necessary to define a
In contrast, the real state is generally less liquid, generally occurs between producers, traders market as liquid. These requirements generally
especially in times of economic crisis as it may and the ultimate consumers in most commodity include the following characteristics:
take long time to sell it. Liquidity can refer to two markets. However, it is in the derivative markets • There must be an active spot or cash
different areas; Liquid market and Liquid assets. where speculators, investors, arbitrageurs and
Liquid market means there are always investors other interested parties to bring liquidity to underlying market in the physical commodity.
on the market willing to trade securities at every these assets. Think of a commodity market as a • There must be numerous buyers and sellers-
price level. It is a market with high trading pyramid. At the top are the assets themselves-
activity, whereas a liquid asset is an asset that can below there are derivatives. The next level of this hedgers, speculators, investors and others.
be easily turned into cash. There is no specific liquidity pyramid is the over-the-counter (OTC) • There should be an open, transparent and
liquidity formula. However, there are two markets.
common measures you can use. When it comes to commodities, different raw non-discriminatory delivery mechanism.
The current ratio is a financial formula which materials offer different degrees of liquidity to • There must be a well-defined relationship
divides the current assets by the current market participants. Examining some of the most
liabilities. Another equation is the quick ratio liquid and less liquid commodity sectors and between the derivative and the physical
that subtracts the inventory of the current assets specific markets will help us to understand the commodity.
and divide the results by current liabilities. For concept of liquidity. • There should be a mechanism to exchange
both the ratios, higher results indicate higher Precious Metals: The most liquid precious metal the cash commodity and the derivative.
liquidity and greater financial health. Liquidity is gold. This is because gold is the precious metal • There should be the convergence of the cash
is an extremely important when considering your with the greatest degree of trading activity. Gold price and prices that reflect future delivery
trading positions and even your ability to exit trades in the physical market and it trades in over time.
them. Liquidity ensures you can easily get in and the OTC forward and swap markets. There are The futures markets have been successful in
out of the market. liquid futures and options contracts on exchanges attracting liquidity because they meet all of these
Buying or selling an asset easily without as well as ETF and ETN products of the metal. characteristics. When it comes to commodities,
disrupting price in a market creates the conditions Other precious metals have varying amounts one can measure the liquidity of specific futures
necessary for a liquid asset. Liquidity generally of liquidity. Consider another precious metal, products by examining daily trading volumes and
occurs when an asset has a high level of trading rhodium. Rhodium only trades in the physical open interest, the number of open but not closed
activity. Investing in liquid assets is generally market; therefore, gold is far more liquid than long and short positions. The higher volume and
safer than investing in illiquid ones because of rhodium because there are no futures contracts open interest, the more liquid the market.
the ease of getting into and out of the positions. in rhodium Liquidity is important for all assets, particularly
When it comes to commodities, which tend to be Energy: Perhaps the most liquidly traded and commodities. Liquidity ensures market
more volatile than other asset classes, liquidity is ubiquitous commodity in the world is crude oil. participants the ability to buy and sell easily. This
a key concern for numerous traders. However, another energy commodity, coal does attracts speculators and investors to a market. An
In the world of commodities, the raw materials, not trade to the extent or with as many derivatives illiquid market tends to be far more volatile than
trade in a number of different fashions. It all as crude oil does. Therefore, crude oil is more a liquid one. Perhaps the most important attribute
starts with the physical commodity markets. A liquid than coal. of liquidity is that it lowers the cost of trading
barrel of oil, bar of gold, truckload of corn or These are but two examples of commodities or investing. When considering an investment in
commodities, or any asset class for that matter,
make sure that you chose liquid instruments so
that you are able to buy and sell without problems
and at the cheapest cost in terms of execution.

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