Super-contango definition
What is a super-contango?
Super-contango is when the spot price for a commodity is trading dramatically below the futures price. Super-contango usually occurs when the inventory space to store the physical commodity is running out due to excess supply – meaning that the cost of carry (the cost of storing a physical commodity) in a futures contract increases.
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As the cost of carry increases, the futures price will increase further if more storage space is not created. To get out of super-contango, the supply of a commodity will need to decline until more storage space is created or current inventories are used up.
However, stopping the supply of a commodity is not an easy task. For example, it’s hard to stop the supply of oil because there are a number of key oil producing areas of the world, such as the US, Russia, China and the member countries of OPEC.
Trying to get so many different entities to coordinate production cuts can prove difficult, and usually, one party will not want to cut their production unless they can be assured that other parties will do the same.
Many investors and traders will take super-contango as an indicator that the spot price of a commodity has hit the bottom of its lower limit. Until the stockpiles are depleted and production cuts are lifted, the price is unlikely to rise.
Example of a super-contango
An example of super-contango would be after the 2008 financial crisis. During this super-contango, it became so profitable to buy spot oil and sell oil futures, that traders and investment funds were renting oil tankers as extra storage space after conventional means of storage were exhausted.
Super-contango is viable so long as the cost of storage added to the spot price remains below the supposed futures price of an underlying commodity – which is what made the above example possible.
How is super-contango different to normal contango?
Contango is less dramatic to super-contango, and in many instances, it is a normal market condition. This is because the futures price can often be higher than the spot price because the futures price will account for the spot price, plus any costs of carry associated with an underlying commodity.
The opposite to contango is backwardation, which is where the futures price is lower than the spot price. Backwardation occurs when the demand increases at the spot price, and remains the same in the futures market.
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