The soft markets are made up of cocoa, coffee, cotton, orange juice and sugar, some of the oldest commodities still around today. You can trace their roots in commerce back over thousands of years. It is important to note that trading in this market involves substantial risks and is not suitable for everyone, and only risk capital should be used. In this article, we'll show you how to use this "sweet" market properly, because any investor could potentially lose more than originally invested.

What are soft futures contracts?
A soft futures contract is a legally binding agreement for the delivery of cocoa, coffee, cotton, frozen concentrated orange juice and sugar in the future at an agreed upon price. The contracts are standardized by the ICE Futures U.S., previously known as New York Board of Trade (NYBOT), and regulated by the Commodity Futures Trading Commission, as to quantity, quality, time and place of delivery. Only the price is variable. (To read more about futures, see Futures Fundamentals, Interpreting Volume For The Futures Market and Becoming Fluent In Options On Futures.)

Most futures contracts are offset prior to delivery, meaning that most contracts are speculators trying to profit off of price movements.

Advantages of Futures Contracts
Unlike equities, futures contracts can be shorted on a downtick, which gives market participants greater flexibility. This flexibility allows hedgers to protect their physical position and speculators to take a position based on market expectations.

Because the soft commodity markets are traded at an exchange, the clearing services ensure no default risk. This means that the exchange acts as buyer to every seller should a market participant have to default on its responsibilities.

Market Personality
With the merger of the NYBOT and Intercontinental Exchange (ICE) in 2007, and after these markets went electronic, volume increased substantially.

Contract Specifications
Although there are other sugar and coffee contracts that trade around the world, this piece deals only with those traded at the ICE Futures U.S.

1. Cocoa
Discovered by the natives of Central America more than 3,000 years ago, cocoa was originally a luxury for the very rich. Today, most of the world's cocoa is grown in a handful of countries: the Ivory Coast, Ghana, Indonesia, Brazil, Ecuador and Nigeria.

Cocoa is traded in dollars per metric ton and one contract is for 10 metric tons. For example, when cocoa is trading at $1,500/M ton, the contract has a total value of $15,000. If a trader is long at $15,000/M ton, and the markets move to $1,555/lb, that is a move of $550 ($1,500 - $1,555 = $55, and 55 x 10 M ton. = $550).

The minimum price movement, or tick size, is a dollar, or $10 per contract. Although the market frequently will trade in sizes greater than a dollar, one dollar is the smallest amount it can move.

The contracts month for delivery of sugar are March, May, July, September and December. Delivery points include licensed warehouses in the Port of New York District, Delaware River Port District, Port of Hampton Roads, Port of Albany or Port of Baltimore.

2. Coffee
Coffee was originally discovered in Ethiopia more than 2,000 years ago. From Africa, coffee found its way to the Middle East and into coffee houses. It was these coffee houses that gave coffee its exposure to many travelers, which spread its use outside the Arabian borders.

Coffee is traded in cents per pound. One contract of coffee controls 37,500 pounds of coffee. When the price of coffee is trading at $1/pound, the cash value of that contract will be $37,500 ($1.00 x 37,500 = $37,500).

The tick size is 5 cents per pound, which equates to $18.75 per tick. For example, if a trader were to go long at $1.1000 and the markets moved to $1.1550, he would have a profit of $2062.50 ($1.1550 - $1.1000 = $0.0550, and $0.0550 x 37,500 = $2,062.50).

Because it one of the larger contracts in dollar terms, little movements have a big impact on price. Coffee has one of the larger daily ranges of all the softs, making it a very volatile commodity.

Coffee is deliverable in March, May, July, September and December. Delivery points are worldwide in ports around the globe like New Orleans, New York, Houston, Miami, Hamburg, Antwerp and Barcelona.

3. Cotton
Because cotton has universal appeal and can be used in many different products, it has been one of more influential commodities. Discovered more than 5,000 years ago, cotton has played a vital role in the rise and fall of many countries. It was one of America's first cash crops.

Cotton is traded in 50,000-pound contracts. It is also traded in cents per pound, so if the market is trading at 53 cents per pound, the contract will have a value of $26,500 ($0.53 x 50,000 pounds = $26,500).

The minimum tick size is $0.0001 or $5 per contract. Therefore any 2 cent move in cotton will equate to either a gain or a loss of $1,000. When the price of cotton exceeds 95 cents per pound, the minimum tick movement will expand to $0.0005 to accommodate to the larger daily ranges.

March, May, July, October and December are the contract months for cotton. Delivery points are in Galveston, Houston, New Orleans, Memphis and Greenville/Spartanburg, which isn't too surprising considering that is where most of it is grown.

4. Frozen Concentrated Orange Juice
Orange juice is a relative newcomer to the commodity markets. For centuries, OJ was consumed as fresh fruit juice because it had a relatively short shelf life and was susceptible to price shocks due to supply disruptions. Freezing OJ was invented in the 1940s and quickly became the industry standard.

One contract of FCOJ equals 15,000 pounds. If the current market price is 90 cents per pound, the contract has a value of $13,500 ($0.90 x 15,000 pounds = $13,500).

The minimum tick is $0.005, or $7.50 per tick per contract. For example, let's say you buy a contract of FCOJ when the market is at 95 cents, and then sell it for $1. In this transaction, you would make $750 on the 5 cent move in FCOJ.

Oranges that come from Brazil and Florida are deliverable in exchange-licensed warehouses in Florida, New Jersey and Delaware only. FCOJ is most actively traded in January, March, May, July, September and December.

5. Sugar
It is widely believed that humans first used sugar well over 2,000 years ago. Originally only reserved for the very rich, sugar has become one of the more common staples on the dinner table. Because of its mass appeal, sugar is usually one of the most heavily traded commodities in the world in terms of total volume.

Sugar trades in contracts of 112,000 pounds as well as in cents per pound. If the futures price is $0.1045, the contract has a value of $11,704 ($0.1045/lb x 112,000 pounds = $11,704). If the market moves from $0.1000 to $0.1240, that is equivalent to a dollar move of $2,688.

The minimum price movement for sugar is $0.0001 or $11.20 per contract.

Sugar is only deliverable in March, May, July and October. There are delivery points in each nation where the sugar is produced. These are places like Argentina, Australia, Barbados, Belize, Brazil, Colombia, Costa Rica, Dominican Republic, El Salvador, Ecuador, FijiIslands, French Antilles, Guatemala, Honduras, India, Jamaica, Malawi, Mauritius, Mexico, Mozambique, Nicaragua, Peru, Republic of the Philippines, South Africa, Swaziland, Taiwan, Thailand, Trinidad, United States and Zimbabwe. (To find out more about global trends in these commodities, see Taking Global Macro Trends To The Bank.)

Conclusion
There are many different opportunities in soft commodities markets. Any person looking to invest should carefully consider the risk involved and be aware of the contract specifications before investing.

To read more about commodities, see Commodities: The Portfolio Hedge, Commodity Prices And Currency Movements and Who sets the price of commodities?

Related Articles
  1. Retirement

    Roth IRAs Tutorial

    This comprehensive guide goes through what a Roth IRA is and how to set one up, contribute to it and withdraw from it.
  2. Chart Advisor

    Watch This ETF For Signs Of A Reversal (BCX)

    Trying to determine if the commodity markets are ready for a bounce? Take a look at the analysis of this ETF to find out if now is the time to buy.
  3. Options & Futures

    What Does Quadruple Witching Mean?

    In a financial context, quadruple witching refers to the day on which contracts for stock index futures, index options, and single stock futures expire.
  4. Investing Basics

    10 Habits Of Successful Real Estate Investors

    Enjoying long-term success in real estate investing requires certain habits. Here are 10 that effective real estate investors share.
  5. Investing Basics

    5 Types of REITs And How To Invest In Them

    Real estate investment trusts are historically one of the best-performing asset classes around. There are many types of REITs available.
  6. Investing Basics

    5 Simple Ways To Invest In Real Estate

    There are many ways to invest in real estate. Here are five of the most popular.
  7. Options & Futures

    4 Equity Derivatives And How They Work

    Equity derivatives offer retail investors opportunities to benefit from an underlying security without owning the security itself.
  8. Options & Futures

    Five Advantages of Futures Over Options

    Futures have a number of advantages over options such as fixed upfront trading costs, lack of time decay and liquidity.
  9. Retirement

    Dollar Shave Club Review: Is It Worth It?

    Learn about the business model of the Dollar Shave Club, and find out whether the razor subscription company is a worthwhile investment.
  10. Budgeting

    Craft Coffee Review: Is It Worth It?

    Learn more about one of the first and most flexible specialty-grade coffee subscription services on the market, a perfect fit for any coffee lover.
RELATED FAQS
  1. What is a derivative?

    A derivative is a contract between two or more parties whose value is based on an agreed-upon underlying financial asset, ... Read Full Answer >>
  2. What is after-hours trading? Am I able to trade at this time?

    After-hours trading (AHT) refers to the buying and selling of securities on major exchanges outside of specified regular ... Read Full Answer >>
  3. What is securitization?

    Securitization is the process of taking an illiquid asset, or group of assets, and through financial engineering, transforming ... Read Full Answer >>
  4. Can hedge funds trade penny stocks?

    Hedge funds can trade penny stocks. In fact, hedge funds can trade in just about any type of security, including medium- ... Read Full Answer >>
  5. Do hedge funds invest in commodities?

    There are several hedge funds that invest in commodities. Many hedge funds have broad macroeconomic strategies and invest ... Read Full Answer >>
  6. Can hedge funds outperform the market?

    Generating returns that exceed those provided by the broader market is the goal of nearly every investor. However, the methods ... Read Full Answer >>
Hot Definitions
  1. Harry Potter Stock Index

    A collection of stocks from companies related to the "Harry Potter" series franchise. Created by StockPickr, this index seeks ...
  2. Liquidation Margin

    Liquidation margin refers to the value of all of the equity positions in a margin account. If an investor or trader holds ...
  3. Black Swan

    An event or occurrence that deviates beyond what is normally expected of a situation and that would be extremely difficult ...
  4. Inverted Yield Curve

    An interest rate environment in which long-term debt instruments have a lower yield than short-term debt instruments of the ...
  5. Socially Responsible Investment - SRI

    An investment that is considered socially responsible because of the nature of the business the company conducts. Common ...
Trading Center