Trading performs three major transformations. Each offers arbitrage opportunities, but is a business of its own. The right coordination between each business line coupled to a rigorous execution performed within each logistics, will determine the overall profitability. A trader has to honour his off-take agreements and supply contracts, but how is up to him. Depending on ever changing price differentials, he can redirect deliveries, source elsewhere, inject into or withdraw from storage. The more he controls the supply chain, the more combinations he has and versatile he can be. The more as well he improves price competitiveness and finally market efficiency. Most operations however are a scale business which become cost-effective only if large volume can be processed, if multiple supply sources can be combined and decisions are made swiftly to grasp opportunities as long as they exist. Those activities are capital intensive, so should be funded, and are executed in unpredictable conditions, prone to slippage and unexpected drawbacks, which requires adequate risk management.
- Material processing, transformation of form.
Raw materials extracted from mining or harvested usually undergo a primary transformation prior to be marketed as 'commodities'. Depending on the product, the process will vary: grinding, concentrating, drying, blending, grading. This happens for various reasons: reduce weight, cut hazardous components, reduce perishability, meet regulatory requirement or simply satisfy customer demand. It can be motivated as well to increase profitability, e.g. by blending different origins to obtain synthetically the quality meeting all specifications at a more competitive price.
- Transport, transformation in space.
Consumers are rarely vested next to a mine or farmland. Taking commodities from where they are produced and bringing them to where they are consumed is the most visible service provided by a trading company. It can be a long chain of processes. Speaking incoterms: Ex-Works to FOB, Free on Board to Cost Insurance Freight, CIF to Delivered at Place. Often multi-modal: pipeline, trucks, rail, inland barges and maritime vessels. The synergies which come with control of such midstream assets improve a lot the reliability, efficiency and profitability of the supply chain.
Overseas shipping is complex and freight prices volatile, trading firms hence pay a particular attention to maritime transport. They may own their own fleet or charter them from vessel owners, on time or voyage charter basis. Bunker fuel is a significant cost of each trip, its prices are volatile as well and requires proper hedging. All this expertise service their own trading desks, but to reduce transport cost, is proposed as well to third-party customers.
- Storage, transformation over time.
In commodities supply and demand are usually inelastic. For the producer it is the sole income and investment in capacity may take multiple years to realize. For the consumer it is the main input of his entire refining or manufacturing business. Inventories help to bridge unforeseen supply accidents or unfavourable market imbalances. Controlling storage capacity gives a trader not only more security to honour his contractual committments, but offers him as well the opportunity to realize price arbitrages. Arbitrage opportunities are transient, hence flexibility and autonomy are key success factors.
Optimizing ownership in time happens on the price curve itself (storing at surplus, releasing at shortage) but as well by hedging physical positions with offsetting financial carry trades: swapping near and far deliveries, depending on the curve direction being contango or in backwardation. By trading the spread, operators contribute to reduce the price differential between forward and spot delivery. As for geography, arbitrage erodes the arbitrage opportunity and doing so improves market efficiency.
- Trade execution.
- Pre deal analytics, Trade capture.
- Contract management, Confirmation, Matching.
- Scheduling, nomination, delivery.
- Fixing, netting and settlement.
- Finance, Accounting, Regulation.