What is the Difference between Commodity and Equity
One of the key differences between equity and commodity is that one is more hedge or underlying driven and the other is more trade-driven. The equity vs commodity essentially stems from the intent of the trader. The debate of equity vs commodity is more pronounced for hedgers than for traders. One way to understand the difference between equity and commodity is to look at the structure of the two markets in India. Let us look at the equity and commodity difference in greater detail.
The equity vs commodity begins with the structure of the two markets and the equity vs commodity debate ends with the way and the speed with which the transactions are executed in both markets. Here is our quick look at what is difference between equity and commodity and a greater focus on the equity vs commodity debate.
Difference Between Equity and Commodity
Let us start the equity vs commodity debate with the worldview. Commodity and equity are quite commonly used as asset classes and in most markets, they normally are traded and are regulated separately. The essential similarity in the equity vs commodity debate is that both equity and commodities are asset classes in which investors can invest their funds and traders can take a price view. It can be short-term and long-term as per choice.
One thing about the equity vs commodity debate is that the terms equity market and commodity market are often used interchangeably. Essentially, both are markets for bringing buyers and sellers together on a neutral platform. Both offer a platform for investors and traders to either take an investment view or a price trading view. Both markets can be evaluated either using a fundamental approach or a technical approach. However, there are some differences to be aware of in the equity vs commodity debate.
- When we talk of commodities, we talk of a very generic form of a product that is undifferentiated. On the other hand, equity is representative of ownership in a company or part ownership as it is better called.
- In India, commodities are broad of 4 statutory classifications viz. precious commodities, base metals, energy, and agricultural commodities. Equities are only differentiated based on their capitalization as large-cap, mid-cap, small-cap, micro-cap, etc.
- Another difference is that while commodities are actual physical existence, equity is another way of looking at an option on the assets of a company. While the company and its assets exist, the ownership of equities is more representative and not physical.
- In commodities, the forwards are generally more popular since most of the commodity contracts are customized to specific needs. On the other hand, the equity and index derivatives are more preferred in the exchange-traded derivatives mode.
- While the prices of commodities are determined by the forces of demand and supply, the price of equity is normally determined by the performance of the company like its sales growth, profitability, profit margins, etc.
- Normally, commodity markets are more short-term in nature although some of the commodity exposure hedgings can also be for longer periods. Equity investing is normally for a longer time frame like a couple of years or at times even much longer.
Commodity Market vs Equity Maket in India
Here is a quick look at the equity vs commodity markets in India. Remember, both equities and commodities are essential investment mediums. However, while commodities are generally undifferentiated, equities can be differentiated on several factors. Also, equity provides ownership as well as other benefits like dividends, rights, stock splits, bonuses, buybacks, etc. Now for some key equity vs commodity differences.
- Stocks and commodities trade on different types of exchanges. In the US, stocks trade on NYSE and NASDAQ, while commodities trade on CME. In India, stocks trade on NSE and BSE while the commodities are traded on the Multicommodity exchange (MCX) or NCDEX.
- Stocks can be held to eternity if you go by what Warren Buffett says. The point is they can be held for as long as you want. Commodity futures or forward contracts have a shorter expiry period referred to as the delivery date and are for a limited period only.
- The commodity is the generic form of a product that is undifferentiated and copper is largely the same everywhere. Equity refers to the ownership stake in a company you are invested in with a proportionate share of the business and net assets of the company.
- Commodities are traded on a commodities exchange through futures and forwards like the MCX or the NCDEX. Equity refers to shares that are traded on a stock exchange like the NSE or the BSE.
- One final point in the equity vs commodity debate is that commodities tend to be driven by international prices. For example, most of the liquid commodity futures in India like gold, silver, crude oil, copper, zinc are all driven by global factors. Equity is more driven by domestic and company-specific factors.
Difference Between Commodity Derivatives and Financial Derivatives
In the Indian context, under the broader context of financial derivatives, you have equity derivatives, index derivatives, interest rate derivatives, commodity derivatives, and currency derivatives. While commodity derivatives can be actual physical delivery, the other categories like index, equity, and currency derivatives are for compulsory cash settlement only. Even in equity derivatives, when they say settlement by delivery, it is only deemed delivery for margining purposes and not actual delivery of shares.
The regulation differs in the case of commodity and financial derivatives. In the case of financial derivatives, the entire regulation comes under the ambit of SEBI. However, in commodity derivatives, only the derivatives on commodity futures come under the ambit of SEBI while any transactions in spot commodity derivatives do not come under SEBI purview.
Frequently Asked Questions Expand All
It is hard to say which is better since the intent is more important. Commodity derivatives are normally used by traders with an underlying. For example and automobile manufacturer buying copper futures to lock in the future price and delivery of copper is a case of hedged exposure. In such cases, the commodity derivative works better.
When it comes to taking a view on the market as a whole or in creating more complex strategies in the derivatives market, the equity derivatives work out better. Also, the liquidity is much higher in the equity derivatives market in India, compared to the commodity derivatives market.
Both commodities and equities can be volatile. For example, we have seen equity markets move wildly in a single day. Similarly, in the case of crude oil, we have seen crude go as low as negative in April 2020. However, broadly, it must be said that the hug bouts of volatility in commodity prices are more exceptional than routine. In the equity markets, the volatility is a lot more routine and happens more frequently.