4 Things a Commodity Contract Should Include

A commodity contract is a legally binding agreement that must be written according to the contract laws in the state where it will be executed. Anyone who has ever worked with a lawyer in writing up a contract is aware there are a number of terms and conditions that must be included in order to protect both parties involved. These items depend on the nature of the contract. All commodity contracts, regardless of where they are executed or what they entail, though, should have these key elements.

#1 Pledged Property

Pledged property is the commodity that will be traded. For example, in a cattle trade, the pledged property portion would discuss the precise number of cattle to be traded, the condition they will be in when traded and other terms regarding the property. This portion will also discuss how the commodity will be picked up and delivered and who will supervise this action. If the contract is violated in any way, either party has the right to cancel the trade and seek damages from the other party. This portion is the most specific to the actual property that will be traded and the two parties' roles in executing the trade.

#2 Price and Exercise Price

The price that will be paid for the property is laid out before the trade occurs. In some cases, there will be an option on the trade, and this option will also have to be disclosed. The option is often called an "exercise" price. For example, the contract my assure the purchaser has an option to exercise a buy at a given price by a given time. In this example, both the price and the exact method for exercising the price will be explicitly listed, and any violation could make the contract void.

#3 Method of Payment

The method of payment is key in any transaction, but it is particularly important in large transactions. Often, the payments will not be made in full at the time of the delivery of the property. In fact, the payment may be made in the form of a guaranty from a bank, sort of like an IOU. These types of bank instruments are often used in commodity trades because of the way profits are managed. It is rare for a trade to result in an immediate cash transaction. Instead, the money may move hands multiple times before it is liquidated. Banks play a key role in allowing this to occur.

#4 Insurance and Liability

When something happens that is outside of either party's control, neither party can hold the other accountable. This is a critical reason why insurance must be purchased and liability must be established. The insurance and liability portion of the contract is often the most nuanced and complicated. Working with an insurance lawyer or broker to determine the proper handling of this section is advised. The time when the property switches liability from the buyer to the seller is a critical moment in the trade, and it must be absolutely defined in the contract.