Trading two products and hoping to profit from the price movement of the products (as they relate to each other) is the essence of spread trading.
There are three types of spread trades:
- Intramarket (calendar) spreads
- Intermarket spreads
- Commodity product spreads
Intramarket spreads involve buying and selling different calendar month contracts of the same underlying product (like July and December corn), in anticipation that the price changes of each leg will lead to a profitable outcome.
Intramarket spread traders generally do not focus on the individual legs, but on whether the spread price will widen or narrow relative to their position.
Intermarket spreads involve buying and selling different products in the same calendar month to profit from changes in the underlying products, like a gold-silver ratio spread.
Commodity product spreads are spreads entered into hedging an industrial or commercial process, like the soybean crush (buying soybeans and selling soybean meal and oil).
Because spread trades involve simultaneously going long and short two products, the position is considered less risky, and exchanges generally favor spread trades with lower margins (as opposed to an outright long or short position).