The commodities market has always been a great alternative to trading on the OTC stock market. What this article will discuss is trading physical commodities such as gold, diamonds and fuel products. The real focus will be acting as an intermediary or facilitator in physical commodities transactions. I mention the three products above because they are very heavily traded products with big upswings and downswings in price potentially yielding very good profit margins. Commodities are usually purchased with some kind of discount off a relative price index and can be resold for a lower discount or the same discount depending on the market price swing and the time between purchase and re-sell.
Breaking into the commodities world comes with varying degrees of risk depending on the angle you choose to enter the market. There will always be some risk involved and the greater risk, the more the payoff can be. The least you must be willing to risk is your time and the most being your money. Trading physical commodities typically costs millions of dollars per transaction but that does not mean you must have that much money sitting in a bank somewhere. However, you must be willing to leverage assets in order to obtain a financial instrument from, in some cases, a top prime bank.
As I mentioned, there are several approaches you can take to the commodities marketplace. Let’s talk about some of these approaches now.
- You can use your own money to buy and then re-sell commodities
Risk level: BIG
- There are many things that can go wrong with a commodities transaction: Cargo lost due to disaster/theft/terrorists at sea/air, product did not truly exist/false documents, product held up at customs, etc.
- Putting real money assets at risk in a commodities deal should only be considered when the buyer and seller have built a previous relationship completing transactions using safer methods
- When using your own money, you maximize the profit potential by avoiding any fees that would be incurred by obtaining a financial instrument
- You can leverage your money and/or other assets to obtain a financial instrument in order to buy and re-sell the product.
Risk Level: Moderate
- In order to successfully market the product to other buyers and for that matter to purchase the desired commodity in the first place, many buyers turn to commodities brokers
- The broker takes a small percentage of the transaction on a one-time or ongoing basis
- The risk comes in when buyers put their personal information in the hands of brokers who then distribute the information across the internet potentially into the hands of scammers who will use their information to try to obtain financial instruments or close other transactions using their names and/or information
- Another common mistake is that buyers will post a financial instrument without seeing any proof of product and then the financial instrument will be used, or shall I say misused, by the seller by him/her presenting the financial instrument to a bank in order to get the necessary funding to actually buy the product in the first place
- The above point is why it is imperative for a buyer to deal only with a provable title holder of a product and not someone looking to pull a fast one
- A perceivable downside to this method is that the buyer will lose a percentage of the profit margin in obtaining the financial instrument. However, it is generally a much safer way to complete transactions as banks will not release the actual payment to the seller until there is a confirmation of Proof of Product by a third party inspection company such as SGS
- You can build relationships with buyers and sellers and take a small percentage of successful transactions.
Risk level: LOW
- The only thing at risk here is time. Networking and relationship building skills are fundamental to the success of a commodities broker. Make new contacts, do what you are able to vet out those contacts and put them together with other connections to close a deal
- If you are working with reliable/well known buyers and sellers, the chances of you actually getting paid your commissions on a transaction are very good although there is a chance that even though one of the buyers and sellers that you introduced successfully closed a transaction, you do not get paid
- Most deals do not close, 95% of the deals you receive in your inbox are fake and many other brokers are so far away from an end buyer/seller, communication takes so long to happen and the deal is gone by the time things get going. This is why it takes most brokers quite some time to close their first deal
- There are several “blacklists” that are distributed between brokers and available on the internet. These lists are created by other brokers who have been scammed or cheated out of their commissions or buyers and sellers that have been defrauded in a transaction. It never hurts to keep several blacklists on file and search them for new connections before doing any business with them
- Avoid transactions that involve long chains of brokers or dealing with inexperienced brokers who demand outrageous percentages of commissions as these are the main causes for transactions to fail to close. If it cannot be avoided, try to get in touch with the broker who is next to the buyer/seller and arrange a conference call with your seller/buyer. Make sure you are present for the initial conference call so everyone knows you are involved in the deal
As you can see, every approach has its good points and bad points. Breaking into the commodities markets is difficult no matter what approach you use. There are new buyers out there every day trying to purchase various commodities without success. Even successful commodities traders trying to break into new markets have trouble. While trying your hand at being a broker may sound easy and rewarding, it is anything but. You must spend time everyday making new contacts and trying to put the two sides of a transaction together in most cases without any reward for your hard work as most deals do not close for one reason or another. Many brokers spend years trying to close out a transaction only to finally give up and walk away from the business altogether. This is the worst mistake you can make as a broker. After years of networking do you really want to throw away all the connections you made? Of course you don’t! So keep at it and eventually you will get something in. There is no magic bullet for success in the commodities world, but with diligence, perseverance and integrity, you are doing your best to be successful.
A few suggests to make yourself more presentable as a broker
- Start your own company and get a branded email address that matches your company. Not only will it be cheaper for you to take in commissions into a corporate bank account, it looks much more professional sending out emails from an actual corporate email as opposed to a publicly available email provider such as a yahoo or gmail account
- Avoid deals that involve long chains of brokers altogether as they almost never close and will likely just end up wasting your time that could be better spent on more viable business
- Get as close to the end buyer/end seller as you can in any transaction
- Make sure to send out documents to their intended recipient immediately and without delay before someone else beats you to the punch
- Never alter documents from an end buyer/seller/mandate without their permission as it is illegal
- Sign any NCNDA/IMFPA that a broker requests you to sign if it moves along the transaction. More on this later
- Get permission from your buyer/seller to send out their name and company name so that the person on the other side of the transaction can address appropriate documents to them in a timely manner
- Vet out your offers before sending them on to your end buyer/seller or even to other brokers for that matter. If you see red flags in the offer try to address them and if they can’t be addressed DO NOT send them to anyone else
- When sending out offers to end buyer/sellers, put as much information as possible in the initial message with a summary in the subject. For example, a sample subject heading for a gold transaction could be:
AU 200MT with R&E / disc 5/4% / FOB Switzerland TTM at UBS L2L / 2 brokers
- ALWAYS find out the number of brokers involved with the transaction BEFORE sending the offer out and tell this to the end buyer/seller
Non-Circumvent Non-Disclosure Agreements and Irrevocable Master Fee Protection Agreements
These documents are a constant cause of arguments between brokers and quite often are the main cause for a transaction to fail. It is a terrible shame that most brokers do not understand that without being attached to a contract with a contract number, these documents are meaningless, non-binding and not enforceable in any way shape or form. Many brokers will tout their standard ICC 400/500/600 NCNDA/IMFPA as a fool proof way of getting paid on a transaction or any transaction that any party involved does for the life of the agreement. This could not be further from the truth.
If you actually do successfully get paid on a transaction this will only allow you to get paid on further transactions between end buyer and end seller involved with the specific commodity involved in the transaction. If you close a gold deal with a buyer and seller and then those parties decide to trade fuel products, you will not be entitled to get any commissions.
When a buyer and seller sit down at a Table Top Meeting to close a transaction, they have every right to throw the IMFPA in the trash and not pay any commissions on the deal. This does happen to the discontent of many a broker. This is why it is important to build relationships with people that have integrity. Talk to the people you want to close the transaction with. If you cannot get a feel for what kind of person they are or they won’t even have a phone conversation with you, there may be something wrong with the relationship in the first place.
More often than not a buyer or seller will not sign someone else’s NCNDA/IMFPA so getting a request to do so is a red flag. If it is insisted that this document be issued then have your end buyer/seller issue one and sign it before you send it down the chain.
A very common practice you will see from brokers is they will put themselves first on an IMFPA with a large portion of the commissions designated for themselves when you are the one who is actually next to and have developed a relationship with the buyer! When it comes down to closing a transaction, the buyer/seller decides who gets paid what on their side of the commission payouts.
Contrary to popular belief, brokers cannot decide what they get paid in any transaction. Commissions should be split evenly on each side between everyone involved. Usually there is a buyer/seller mandate involved who will be appointed a large portion of the commissions on that side. Again, it is the buyer who decides this portion and NOT any broker involved. In reality, the mandates do not actually receive the full amount they are appointed. The majority of the discount appointed for mandates gets added on to whatever side they are on and go to the buyer or seller, not the mandate.
In conclusion, I would like to wish everyone involved in the commodities world the best of luck. Be persistent, be honest, be humble, be professional and you will close your first deal. The first of many to come.