How an Exchange Determines Commodity Prices - dummies

How an Exchange Determines Commodity Prices

By Amine Bouchentouf

Have you ever picked up the newspaper and read that commodity prices (most likely crude oil) reached a new high? Have you ever asked yourself how these prices are determined? Well, they’re determined on an exchange.

The global benchmark for crude oil prices is a type of crude traded on the CME/NYMEX, called West Texas Intermediate (WTI). WTI comes from where its name suggests — West Texas. WTI is a light, sweet crude oil, and it’s a benchmark because refiners prefer light, sweet crude to heavy, sour crude; they can get a lot more products out of that type of oil.

Because the WTI is traded on the CME/NYMEX as a futures contract, the price you read in the newspaper usually refers to the front-month delivery of the contract. So when you read that oil is now at $62 a barrel, this refers to WTI crude oil traded on the CME/NYMEX for next month’s delivery.

This is very different than the current spot market price — the price you would pay if you purchased a barrel of oil right away, or on the spot. Additionally, the North Sea Brent — another light, sweet crude — which trades in London on the International Petroleum Exchange (now part of the Intercontinental Exchange), is used as a secondary global benchmark.