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Since the start of this century, the commodity markets have fallen in and out of favour with the financial community. Throughout the preparation of the manuscript for the second edition, I would often see headlines that made me wonder whether my target audience would still exist by the time of publication! Having been in finance for over 30 years, one thing I have seen is the way in which history tends to repeat itself, so fingers crossed.

My original motivation for writing the book, however, stemmed from my time working at Barclays Investment Bank, where I had tremendous difficulty in finding people who could provide classroom training on the various commodity products. Although many companies were able to provide training that described the physical market for each commodity, virtually no one provided training on over‐the‐counter (OTC) derivative structures. As they say, if you want a job done properly…

While doing research for the first edition I felt that much of the available documentation either had a very narrow focus concentrating on just one product, or were general texts on trading commodity futures with a lot of coverage of subjects like technical analysis with little insight into the underlying markets. As a result, I have tried to write a book that documents in one place the main commodity markets and their associated derivatives.

Within each chapter, I have tried to keep the structure fairly uniform. Typically, there will be a short section explaining what the commodity is in non‐technical terms. For those with a background in any one specific commodity, this may appear somewhat simplistic, but is included to ensure a reader has sufficient background to place the subsequent discussion within some context. Typical patterns of demand and supply are considered as well as the main factors that will influence the price of the commodity. The latter part of each chapter focuses on the physical market of the particular commodity before detailing the main exchange traded and OTC products.

One of the issues I faced when writing each chapter was to determine which products should be included. I was concerned that I might end up repeating ideas that had been covered in earlier chapters. Therefore, I have tried to document structures that are unique to each market in each particular chapter, while the more generic structures have been spread throughout the text.

So why a second edition? While considering the prospect of writing a second edition, I came across this wonderful quote.

‘Writing as a profession is a sequence of failed ambitions. You never succeed in writing the book you want, or you'd never bother to write the next. So for writers, ambition is irrelevant. All you can do is write as well as your talent will allow’.

—Faye Weldon, Financial Times, weekend magazine, 28/29 July 2012

Upon reflection, I pondered whether the first edition achieved a good balance between the markets and the derivatives, and so I decided to include more example transactions. I also took the opportunity to update the original text and expand the product coverage. For those of you who are wondering if it is worth upgrading to the second edition, here is a quick snapshot of the major changes. The first edition ran to about 100,000 words, while this shiny new version is twice the size.

New topics include:

• Dual curve swap valuation.
• Option valuation within a negative price environment (the Bachelier model).
• Volatility skews, smiles, smirks, and term structures for the major commodities.
• Case studies on corporate failures linked to commodity risk management.
• Implications of growing interest in electric vehicles on commodity markets.
• Increased coverage of oil refiners and the challenge of output optimisation.
• Expanded sections on the Brent and WTI physical markets.
• Expanded section on the trading of electricity.
• Inclusion of iron ore and freight markets alongside coal in a chapter renamed as ‘bulk commodities’.
• New section on weather derivatives.
• Expanded content in the agriculture chapter.
• New chapter on commodity financing covering areas such as project finance, working capital management, and commodity‐linked debt structures.
• Significant rewriting of the chapter on investment structures with new content illustrating why the concept of ‘roll yield’ is widely misunderstood.

Chapter 1 provides an overview of commodity markets and then outlines the main derivative building blocks. Chapter 2 considers the main principles of derivative valuation. This sets the scene for a discussion on the concept of risk management in Chapter 3. Two different perspectives are taken, that of a corporate with a desire to hedge some form of exposure and an investment bank that will take on the risk associated by offering any solution. Chapter 4 looks at the market for gold while Chapter 5 develops the metal theme to cover base metals. Some readers may complain that there is no coverage of other precious metals such as silver, platinum, and palladium, but I felt that including sections on these metals would amount to overkill and that gold was sufficiently interesting in itself to warrant an extended discussion. The next three chapters cover the core energy markets, the first of which is crude oil in Chapter 6. Chapter 7 covers natural gas markets while Chapter 8 looks at electricity. Chapter 9 describes the market for plastic, which at the time of the first edition was ‘the new kid on the block’. This has been rewritten to reflect how it has changed in the subsequent years. Chapter 10 has been renamed as ‘bulk commodities’ with the coverage widening to include iron ore and freight. Chapter 11 looks at the continuing interest in the trading of carbon emissions but also includes a discussion on weather derivatives. Chapter 12 covers agricultural products and has been expanded to cover more markets and a greater number of transactions. Chapter 13 is new and looks at different aspects of commodity finance. The book concludes by looking at the use of commodities within an investment portfolio.

As ever, it would be arrogant of me to assume that this was entirely my own work. The book is dedicated to the late Paul Roth, who was taken from us far too early in life. In the decade that I knew him, I benefited considerably from his insight into the world of derivatives. It never ceased to amaze how after days of pondering on a problem, I could half explain something I half understood to him and he would be able to explain it back to me perfectly in simple and clear terms.

Thanks to the team at Wiley who were very patient and understanding while I was preparing the manuscript. I am sorry it took so long.

General thanks go to my late father Reg Schofield who offered to edit large chunks of the original manuscript to tidy up ‘the English what I wrote’. Rachel Gillingham deserves a special mention for helping me express the underlying chemistry of a number of commodities within the book. Her input added considerable value to the overall manuscript.

At Barclays Capital I would like to thank Arfan Aziz, Natasha Cornish, Lutfey Siddiqui, Benoit de Vitry, and Troy Bowler. They all endured endless requests for help and have given generously of their time without complaint. In relation to specific chapters, thanks go to Matt Schwab and the late Jon Spall (Gold); Angus Mcheath, Frank Ford, and Ingrid Sternby (Base Metals); David Paul and Nick Smith (Plastics); Thomas Wiktorowski‐Schweitz, Orrin Middleton, Suzanne Taylor, and Jonathon Taylor (Crude Oil); Simon Hastings, Rob Bailey, David Gillbe (Electricity); Paul Dawson and Rishil Patel (Emissions); Rachel Frear and Marco Sarcino (Coal); Maria Igweh (Agricultural). Thanks also to Steve Hochfeld who made some valuable comments on the agricultural chapter.

With respect to the second edition, John Fry and Neil Scurlock at ICE were generous in their time helping me out with crude oil EFPs. All of them contributed fantastic insights into the different markets and often reviewed drafts of the manuscript, which enhanced it no end.

Very special thanks to Nicki, who never once complained about the project and has always been very interested and supportive of all I do.

If I have missed anyone, then please accept my apologies, but rest assured I am grateful. Although I did receive a lot of help in compiling the materials, any mistakes that are in the text are entirely my responsibility.

I am always interested in any comments or suggestions on the text and I can be contacted at:

neil.schofield@fmarketstraining.com

Neil C. Schofield

P.S. Hi to Alan and Roger, who dared me to include their names. You still owe me tea and toast from the first edition!