When it comes to trading commodities, it usually pays to be a contrarian.
Going against the herd, buying when everyone else is selling, and selling when everyone else is buying is a viable trading strategy in most financial markets.
But it works especially well with commodities because the forces of supply and demand are so pronounced.
After all, when demand for a commodity is so strong that it pushes prices higher, producers kick into gear and increase supply (thereby maximizing profit).
And that increased supply helps push prices back down.
That’s not generally true with other investments – like stocks, for example.
Investor demand for a stock isn’t often met with the company increasing the supply by issuing new shares of stock. So, the price trends tend to be more persistent.
This natural “ebb and flow” of supply and demand in the commodities market makes it well suited for a contrarian style of trading.
Think about the situation in natural gas we wrote about earlier this month.
At the time, natural gas was extremely overbought – up 150% for 2022. Just about all the financial talking heads were bullish on the price.
Let’s look at the UNG chart to see what happened…
The price of natural gas fell 30% in about two weeks.
Contrarian traders had an opportunity to make significant gains by betting on the downside.
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Or, at least they avoided steep losses by not following the herd and buying natural gas when everyone else was bullish on it.
These sorts of setups happen all the time in the commodities markets.
The Relative Strength Index (RSI) at the bottom of the chart tracks whether a stock is overbought or oversold. Oscillating between 0 and 100, the RSI determines a security is overbought over 70 and oversold below 30.
Traders can profit by looking for overbought conditions (over 70) where investor sentiment is overwhelmingly bullish, and then selling or shorting the commodity.
Or traders could look for oversold conditions (below 30) where investor sentiment is remarkably bearish, and then buy the asset.
Best regards and good trading,
Will you look for bearish or bullish conditions in natural gas?
Let us know your thoughts – and any questions you have – at [email protected].