Futures curves always provide a good amount of entertainment, especially when you can see the effects of supply and demand. Most of the time I focus on the VIX futures curve, but today we can see some interesting artifacts in crude oil. What is normally in contango (closer maturities carry a lower price than maturities further out on the futures curve) has quickly turned into backwardation for oil futures. According to Bloomberg:
Producers and merchants increased so-called net-short positions in crude futures and options by 13 percent in the week ended Dec. 7, setting prices for output from wells, the Commodity Futures Trading Commission’s said in its Commitments of Traders report. It was the second-largest set of sales in two years.
Hedging oil for future delivery pressured the longest-maturity contracts, erasing the contango, or premium paid for later shipments. Hedge funds exaggerated the move as oil for delivery in December 2011 began trading at a premium to December 2012 for the first time since the week Lehman Brothers Holdings Inc. declared bankruptcy in September 2008.
Pictorially, here is the result:
Notice how quickly the backwardation emerged...
What this implies is that oil producers are selling contracts (committing to deliver oil in the future at agreed price) further out in time to lock in relatively high prices. The front part of the curve has been high due to low supply and speculation that demand will be strong over the next few months. The interesting thing to watch is whether the high front prices bring more supply to the market, thereby driving prices down. It is also interesting to note that we saw these sorts of artifacts in July – August 2008 before we saw the brunt of the oil and equity market sell off…
