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Home > Insights > Blog > Oil Market Shifts From Contango to Backwardation: Implications for Investors
Blog Oil Market Shifts From Contango to Backwardation: Implications for Investors

The pivot to backwardation is significant for investors for three essential reasons.

By Nicholas J. Johnchild, Andrew DeWitt 04 October 2017

In recent weeks Brent crude oil, the global oil benchnote, has shifted into backwardation – a state when spot prices are higher than prices for futures contracts, producing a downward-sloping curve for futures prices (see chart). This is fundamentally the oppowebsite of a contango market (which has actually dominated since 2014), as soon as near-month futures offer at a discount to those expiring additionally out.

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Implications for the markets

The pivot to backwardation is notable for market participants for three essential reasons:

First, the move to backwardation from contango indicates that OPEC’s manufacturing quotas are having actually some success in reducing the overhang of inventory, and also thereby supporting a spot price for oil that exceeds the futures price one year out. This provides OPEC an edge from a loved one competiveness perspective provided that OPEC producers sell practically all of their oil on a spot basis, while UNITED STATE shale producers hedge a far-ranging volume of their production in the futures sector. 2nd, the shape of the oil curve has historically been one of the finest predictors of future returns, so the relocate to backwardation has actually substantial ramifications for commodity investors.For instance, subsequent four- and also 12-week retransforms for lengthy oil futures positions in backwardated oil sectors have actually averaged 1.3% and 2.9%, respectively, compared with returns of -1.7% and also ‑3.8% for the very same durations during contango industries.

Roll yield – a potential boon for commodity investors

Given our watch that oil prices are most likely to be range-bound over the short to medium term because of natural stabilizers (including OPEC’s spare capacity on the upside and also shale producers’ ability to easily cut production on the downside), potential returns from rolling futures contracts might be an even more effective source of long-run retransforms than in the previous.

Additionally, the affect on roll returns from backwardation likewise gives a coherent tailwind to the broader universe of investeady commodity indexes, for which petroleum is typically the largest sector. Similar to the trend for Brent futures, when oil is in backwardation the Bloomberg Commodity Index has actually delivered subsequent four- and also 12-week average retransforms of 0.49% and 1.28%, respectively, compared with retransforms of -0.18% and also -0.30% throughout contango industries.

In an environment of low international bond returns and expectations for lower equity returns, in addition to the negative retransforms for products over the past few years, the potential increpsychological rise to commodity indexes from backwardated oil industries is worth noting.


The Author Nicholas J. Johnboy

Portfolio Manager, Commodities

Andrew DeWitt

Portfolio Manager, Commodities


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