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Any factors leading to contango or backwardation?

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Any factors leading to contango or backwardation?

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Contango and/or backwardation are caused by many factors such as:

Carrying Costs
Carrying costs consist of financial, storage, and insurance costs which are required to store the relevant commodity. Some commodities, such as natural gas and crude oil, are known for exhibiting steep contango over time as the carrying costs associated are relatively high compared with other commodities.

Market supply and demand of the delivery month
For agricultural products, during September in the harvest season when shipment of the harvests takes place, the expected increase of supply influences the drop in price. If the expected supply is to increase, backwardation occurs where futures price is lower than the spot price.

Convenience yield
Convinience yield refers to a benefit or premium with  holding raw material inventory, rather than the contract or derivative product.  It stems from the availability of timely physical delivery.  In an inverted market, the holding of an underlying good or security may become more profitable than owning the contract or derivative instrument, due to its relative scarcity versus high demand.

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What are the implications of contango and backwardation?

"Contango" is the process whereby near-month futures are cheaper than those expiring further into the future, creating an upward sloping curve for futures prices over time (i.e. Futures Price > Spot Price at contract maturity). In a contango environment, an investor who is long futures may experience "negative roll yield" if the contract is rolled after the futures price moves downward to converge with the expected spot price. Even if the commodity appreciates, the investor holding long futures may experience a loss. "Backwardation" is opposite of contango, when near-month futures are more expensive than those expiring further into the future (i.e. Future Price < Spot Price at contract maturity). In a backwardation environment, an investor who is long futures may experience "positive roll yield" if the contract is rolled after the futures price rises to converge with the expected spot price. Even if the commodity appreciates, the investor holding long futures may experience no loss.WTI crude oil has at times in the past traded in contango due to material storage costs of oil, as well as high demand of crude oil. Because roll yields are considered in the calculation of the Index, the presence of contango in the commodity markets could result in negative "roll yields", which could adversely affect the level of the Index.   Contango and/or backwardation are caused by many factors such as:Carrying CostsIt consists of financial, storage, and insurance costs which are required to store the relevant commodity. Some commodities, such as natural gas and crude oil, are known for exhibiting steep contango over time as the carrying costs associated are relatively high.Market supply and demand of the delivery monthE.G. For agricultural products, during September in the harvest season when shipment of the harvests takes place, the expected increase of supply influences the drop in price. If the expected supply is to increase, backwardation occurs where futures price is lower than the spot price.Convenience yieldIt refers to the non-monetary earnings from raw material inventoryIrregular market movementsAn inverted market, the holding of an underlying good or security may become more profitable than owning the contract or derivative instrument, due to its relative scarcity versus high demand  

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Can you show an illustrated example of the effects of a roll-over?

Here is a simple step-by-step Contango example using the table below:   Day 0  the ETF enters into the 1st nearby futures contract at the level of 100. 1 month later from Day 0  the ETF closes out the position by selling the 1st nearby futures contract at 110 then enters into the 2nd nearby futures contract at 113, i.e. the ETF has a negative roll yield of -3 from this rollover trade. 2 month later from Day 0  the ETF closes out the position of selling 2nd nearby futures contract at 115. Calculate the ETF profit  from Day 0   When we calculate the profit of the ETF, we must take count negative rollover yield, -3. Therefore, the profit of the ETF is 115 – 100 – 3, which is 12.     Day 0 1 month later (rollover trade) 2 months later 1st nearby futures 100 110   2nd nearby futures 102 113 115   (The table is for explanatory purpose only and prepared by Samsung Asset Management (HK) Ltd.)

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