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 Contango

Commodity, Futures
Contango is a futures market term. It is the situation where, and the amount by which, the price of a commodity for future delivery is higher than the spot price. Or a far future delivery price higher than a nearer future delivery.

A contango is normal for a non-perishable commodity which has a cost of carry. (Such costs will be warehousing fees and interest forgone on money tied up, less income from leasing out the commodity if possible (eg. gold)).

The contango should equal the cost of carry, because producers and consumers can compare the futures contract price against the spot price plus storage, and choose the better one. Arbitrageurs can sell one and buy the other for a risk-free profit too (see rational pricing – futures).

But if there is a near-term shortage, the price comparison breaks down and the contango may be reduced or disappear. Near prices become higher than far prices because for consumers future delivery does not suffice, and because there are few holders who can make an arbitrage profit by selling the spot and buying back the future. This is called backwardation.

For perishable commodities, price differences between near and far delivery are not a contango. Different delivery dates are like different commodities in this case, since fresh eggs today are not fresh in 6 months time, or 90-day treasury bills will expire, etc.

This article is licensed under the GNU Free Documentation License. It uses material from the Wikipedia article "Contango".




 
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