This situation is called backwardation. For example, when futures contracts have lower prices than the spot price, traders will sell short the asset at its spot price and buy the futures contracts for a profit. This drives the expected spot price lower over time until it eventually converges with the futures price.
What is contango in commodity markets?
Contango is a situation where the futures price of a commodity is higher than the spot price. Contango usually occurs when an asset price is expected to rise over time.
How do you know if its backwardation or contango?
Contango and backwardation are terms used to define the structure of the forward curve. When a market is in contango, the forward price of a futures contract is higher than the spot price. Conversely, when a market is in backwardation, the forward price of the futures contract is lower than the spot price.
What causes backwardation in oil markets?
Backwardation is theoretically a bullish sign for oil, because it means traders no longer have an incentive to store oil and sell it at a later date. Instead, it’s best for them to sell oil now because prices could be lower in the future.
What is oil trading at now?
| WTI Crude | 68.93 | -0.46% |
|---|---|---|
| Brent Crude | 71.18 | -0.36% |
| Natural Gas | 3.913 | -3.60% |
| Heating Oil | 2.100 | -0.25% |
| Gasoline •1 day | 2.272 | -1.30% |
How are contango and backwardation used in the market?
Because contango and backwardation are known states in the market, traders can employ strategies that attempt to exploit them. Contango and backwardation are frequently seen in commodity markets where certain factors prompt the price discrepancy between expected future spot prices and the price of futures contracts.
When does normal backwardation occur in the futures market?
Normal backwardation is when the futures price is below the expected future spot price. This is desirable for speculators who are net long in their positions: they want the futures price to increase. So, normal backwardation is when the futures prices are increasing.
Which is the opposite of contango in the futures market?
Normal backwardation, which is essentially the opposite of contango, occurs when the forward price of a futures contract is below the expected future spot price. Because contango and backwardation are known states in the market, traders can employ strategies that attempt to exploit them.
When does a commodity trader refer to contango?
When a commodity trader refers to contango, this market condition is one in which prices in distant delivery months are higher than they are in more imminent delivery months. Here’s an example using COMEX Gold futures:
