Contango

Contango describes a futures market where prices for later delivery are higher than prices for nearer delivery, and usually higher than the spot price. A crude oil curve in contango might show $75 for next month, $76 for the month after and $78 a year out. Contango is the normal state for many markets when supplies are ample, because it reflects the cost of storing and financing the asset. It matters most to anyone holding futures for a long time, because rolling positions in contango steadily costs money.

Why contango happens#

Recall the cost of carry: futures price ≈ spot + financing + storage minus income. When financing and storage outweigh any benefit from holding the physical asset, later futures are priced higher. See Spot vs Futures.

Markets with high inventories often show steep contango. In the extreme, when storage fills up, near term prices can collapse far below later ones, as in WTI crude oil in April 2020. See Storage and Inventories.

Contango and rolling#

A futures holder who wants to keep exposure must sell the expiring contract and buy a later, more expensive one. In contango, each roll sells low and buys high, and if spot prices stay flat, the position loses value over time. This is called negative roll yield. See Roll Yield and Rolling Futures Contracts.

Famous examples#

• The USO crude oil fund in 2020: with front month crude in extreme contango, the fund suffered heavy roll costs and changed its holdings to spread exposure across later months.
• VIX futures products: VIX futures are usually in contango, so long VIX exchange traded products holding short dated futures have lost most of their value over long periods. See The VIX.
• Natural gas funds have historically suffered from steep seasonal contango. See Natural Gas.

Who benefits from contango#

• Storage owners can buy spot, sell futures and earn the spread if it exceeds storage and financing costs, a cash and carry trade. See Cash-and-Carry Arbitrage.
• Short futures holders gain from roll down if spot stays flat.
• Producers can sell future output at higher prices than today's.

Reading the curve#

The steepness of contango is often measured as the percentage difference between the first and second months, or the annualised spread across the curve.

annualised contango ≈ (F2 / F1 - 1) × (12 / months between contracts)

Steep contango usually signals oversupply; flattening contango or a move to backwardation often signals tightening. See Backwardation.

Contango in financial futures#

In equity index futures, the gap between futures and spot reflects interest rates minus dividends. When rates are above dividend yields, index futures trade above spot in a mild, predictable contango. This is not a storage cost but a financing cost, and investors holding index futures instead of stocks effectively pay that financing.

Common mistakes#

• Holding commodity ETFs long term without understanding roll costs.
• Assuming a futures price is a forecast of the future spot price; it mostly reflects carry.
• Ignoring the curve when choosing which month to trade.

Frequently asked questions#

What is contango?#

A market condition in which futures prices for later delivery are higher than for nearer delivery or the spot price.

Why is contango bad for commodity ETFs?#

Because funds that roll futures must keep selling cheaper expiring contracts and buying more expensive later ones, losing value if spot prices stay flat.

Is contango normal?#

Yes, for many storable commodities with ample supply and for financial futures when interest rates exceed income from the asset.

Next, learn the opposite condition in Backwardation.