What is "contango"

Contango \Con*tan"go\ (k[o^]n*t[a^][ng]"g[-o]), n.; pl. Contangoes. [Prob. a corruption of contingent.]

1. (Stock Exchange) The premium or interest paid by the buyer to the seller, to be allowed to defer paying for the stock purchased until the next fortnightly settlement day.

2. (Law) The postponement of payment by the buyer of stock on the payment of a premium to the seller. See Backwardation.
   --N. Biddle. [1913 Webster] ||

1853, a stockbroker's invention, perhaps somehow derived from continue, or from Spanish contengo "I contain, refrain, restrain, check." As a verb, from 1900.

n. 1 The situation in a futures market where prices for future delivery are higher than prices for immediate (or nearer) delivery. 2 The amount by which prices for future delivery are higher than prices for near delivery.

Contango is a situation where the futures price (or forward price) of a commodity is higher than the spot price. In a contango situation, hedgers (commodity producers and commodity users) or arbitrageurs/speculators (non-commercial investors), are "willing to pay more [now] for a commodity at some point in the future than the actual expected price of the commodity [at that future point]. This may be due to people's desire to pay a premium to have the commodity in the future rather than paying the costs of storage and carry costs of buying the commodity today."

The opposite market condition to contango is known as backwardation. "A market is 'in backwardation' when the futures price is below the spot price for a particular commodity. This is favorable for investors who have long positions since they want the futures price to rise to the level of the current spot price."

The Commission of the European Communities described backwardation and contango in relation to futures prices: "The futures price may be either higher or lower than the spot price. When the spot price is higher than the futures price, the market is said to be in backwardation. It is often called 'normal backwardation' as the futures buyer is rewarded for risk he takes off the producer. If the spot price is lower than the futures price, the market is in contango."

The futures or forward curve would typically be upward sloping (i.e. "normal"), since contracts for further dates would typically trade at even higher prices. (The curves in question plot market prices for various contracts at different maturities—cf. term structure of interest rates) "In broad terms, backwardation reflects the majority market view that spot prices will move down, and contango that they will move up. Both situations allow speculators (non-commercial traders) to earn a profit."

A contango is normal for a non-perishable commodity that has a cost of carry. Such costs include warehousing fees and interest forgone on money tied up (or the time-value-of money, etc.), less income from leasing out the commodity if possible (e.g. gold). For perishable commodities, price differences between near and far delivery are not a contango. Different delivery dates are in effect entirely different commodities in this case, since fresh eggs today will not still be fresh in 6 months' time, 90-day treasury bills will have matured, etc.