Limited Time Offer: Save 10% on all 2021 and 2022 Premium Study Packages with promo code: BLOG10    Select your Premium Package »

Commodity Life Cycles

Commodity Life Cycles

The life cycle of commodities differs significantly depending on the economic, technical, and structural (i.e., industry, value chain) profile of each commodity and the sector.

The commodity life cycle has an impact on the following aspects:

  • It reflects and magnifies the modifications in storage, weather, and political or economic events that shift supply and demand.
  • It feeds into the economics for the valuation and shape of the commodity supply and demand curves, plus their respective price elasticities of demand and supply.
  • It builds an understanding of, and ideally, the ability to forecast what drives market actions and commodity returns.

Energy

The factors affecting the life cycle of oil production and natural gas include;

  • Refineries are quite expensive to construct depending on the processes required to distill and purify the oil.
  • Damage to oil refineries due to political unrest.
  • The cost of oil explorations is generally high, especially in deep offshore locations or geographically remote (or geopolitically risky) regions.

Industrial/ Precious metals

Livestock

The life cycle for livestock is considerably affected by the weather. Access to high-quality pasture and feed accelerates weight gain, leading to fluctuations in the availability of animals ready for slaughter.

The timing to maturity typically increases with size, with poultry maturing in a matter of weeks, hogs in months, and cattle in a few years.

The factors that affect the life cycle of livestock include:

  • Risk of spoilage: Advances in cryogenics (freezing) technologies concerning chicken, beef, and pork mean that increasingly these products are moving from one part of the world to another in response to differences in production costs and demand.
  • Demand from emerging markets: The development of middle-class consumers capable of purchasing meat protein as a regular part of their diet has increased interest and investment in the livestock and meatpacking industries.
  • Hedging: Ranchers and slaughterhouses trade hog and cattle futures to hedge against their processed meat commitments.

Grains

The grain life cycle is affected by the following:

  • Weather conditions: Grains in the northern hemisphere follow a similar growth cycle with a corresponding but opposite growth cycle in the southern hemisphere.
  • Storage conditions: Poor standards and logistics can result in a substantial loss of value to grains. For the hygienic standards to be maintained, specialized port facilities, packing houses, and vehicles are used.
  • Hedging: Farmers and consumers can trade futures to hedge their exposure to the crop in question. The contract delivery months reflect the different times of the growing cycles.

Soft Crops

Coffee which is a widely grown commodity is practically harvested almost all year round and follows the process below:

Example

Which of the following is most likely a primary difference in the production life cycle of crude oil and natural gas?

  1. Natural gas is not transported via ships.
  2. Natural gas requires very little additional processing and can be used in its natural state after extraction compared with crude oil.
  3. Only crude oil needs to be stored.

 Solution

The Correct Answer is B:

Natural gas can be used within a short time frame after it is extracted from the ground,

but crude oil must first be processed for later use.

A is incorrect:

Both oil and natural gas can be transported by ships.

C is incorrect:

Both oil and natural gas are stored before usage.

Question

Which of the following factors is most likely to impact livestock as a commodity?

  1. Geopolitical risks.
  2. Weather conditions.
  3. Commodity price fluctuations.

Solution

The Correct Answer is B:

Weather conditions, access to high-quality pasture, and feed accelerate weight gain leading to fluctuations in the availability of animals ready for slaughter.

A is incorrect: Geopolitical risk majorly affects the energy commodities in terms of trade restrictions and political unrest, leading to oil refineries’ destruction.

C is incorrect: Generally, ranchers and slaughterhouses trade hogs and use cattle futures to hedge against their processed meat commitments.

Reading 37: Introduction to Commodities and Commodity Derivatives

LOS 37 (b) Compare the life cycle of commodity sectors from production through trading or consumption.

.

Featured Study with Us
CFA® Exam and FRM® Exam Prep Platform offered by AnalystPrep

Study Platform

Learn with Us

    Subscribe to our newsletter and keep up with the latest and greatest tips for success
    Online Tutoring
    Our videos feature professional educators presenting in-depth explanations of all topics introduced in the curriculum.

    Video Lessons



    Daniel Glyn
    Daniel Glyn
    2021-03-24
    I have finished my FRM1 thanks to AnalystPrep. And now using AnalystPrep for my FRM2 preparation. Professor Forjan is brilliant. He gives such good explanations and analogies. And more than anything makes learning fun. A big thank you to Analystprep and Professor Forjan. 5 stars all the way!
    michael walshe
    michael walshe
    2021-03-18
    Professor James' videos are excellent for understanding the underlying theories behind financial engineering / financial analysis. The AnalystPrep videos were better than any of the others that I searched through on YouTube for providing a clear explanation of some concepts, such as Portfolio theory, CAPM, and Arbitrage Pricing theory. Watching these cleared up many of the unclarities I had in my head. Highly recommended.
    Nyka Smith
    Nyka Smith
    2021-02-18
    Every concept is very well explained by Nilay Arun. kudos to you man!
    Badr Moubile
    Badr Moubile
    2021-02-13
    Very helpfull!
    Agustin Olcese
    Agustin Olcese
    2021-01-27
    Excellent explantions, very clear!
    Jaak Jay
    Jaak Jay
    2021-01-14
    Awesome content, kudos to Prof.James Frojan
    sindhushree reddy
    sindhushree reddy
    2021-01-07
    Crisp and short ppt of Frm chapters and great explanation with examples.