Voiceover: Let's do a quick
review of contango and backwardation because they
really are opposites of each other, but they're used in
different context, sometimes with the exact right meaning,
sometimes with the not so right meaning, so let's clarify
what we're talking about. So if you hear a commodities
trader say that a market is in contango, they're normally
just referring to the fact that you have an upward
sloping futures curve. So technically it'd be just
you would call it a normal futures curve because it's
upward sloping. They would call it contango. It sounds a
little fancier and if you were to hear a commodities trader
say that a market is in backwardation, they're
really just talking about an inverted futures curve.
They're just talking about something like this. Now, if
we were to be more precise with those, that's how it's
used in kind of common every day lingo but if you
wanted to be more precise, if someone were to tell you
that we're to talk about contango theory ... contango
theory may be in an academic setting, then they're talking
about the notion that the future delivery price is
actually higher than what people expect the price to be at that
date. The problem with that is it's just a theory and
there's no way to know ahead of time what that expected price
actually was, so it's very theoretical. Similarly, if
someone is talking about backwardation theory or even,
I guess more particularly if they use the word "normal"
backwardation. If they say the theory of normal
backwardation, they just don't say backwardation by itself.
They say the theory of normal backwardation, they're talking
about the idea that the future delivery price is
lower than some expected price because the seller is willing
to sell it at discount so they can essentially lock their
prices in, but once again it's a very theoretical idea and
it's really hard to observe it in the real world because
you actually don't know what the expected price
is. So if someone is saying backwardation, they're usually
just talking about an inverted, an inverted futures curve.
If someone talks about normal backwardation or the theory
of normal backwardation, they're talking about the idea
that the future price, the future delivery price is below
the market's expected price. I've even seen the word
"normal contango" used when they're talking about contango
theory. The idea that the future price would be above
the expected price, so contango theory is the
opposite of the theory of normal backwardation. Now,
for both of the theories, you never know what this
expected price is, so you can't literally observe it, a
snapshot in real time and the closest thing we can do
to observing either a real contango in a market or
real normal backwardation in a market, is if in the
example of contango, if the future delivery price right now
is higher than the expected. As we get closer and closer
to that delivery date, it should converge or it
should move down so you can kind of observe contango
over time when this price moves down as we go forward
in time. This is a snapshot. This is it moving it down
... moving down as we move ahead in time. Same thing
for normal backwardation. The only way that you can
really observe it or even attempt to observe it, is
to look at what happens to this price over time. If eight
months, the deliver price is $50, but as we move future
... as we move forward in time and that contract becomes
closer and closer to its actual delivery date. It will
converge with the spot price and it will move up, so this
observation of the futures price moving up as you
get closer to delivery, that's a better way of
observing that a market is experiencing normal
backwardation. Hopefully that clarifies some things.