Monday, March 30, 2020

Contango, oversupply and commodity markets




The slope of the oil curve (contango) is the steepest since the Financial Crisis. Front month futures have fallen $40 per barrel this year. The current spread could further decline by up to 5 dollars a barrel to match Financial Crisis levels. Oil prices are at lowest levels since the 1990's. The demand shock with continued production makes for a logistical inventory nightmare that has not yet truly shown in EIA domestic inventory numbers which are similar to 2019.

This market is in a major imbalance that is not likely to be solved anytime soon given further social distancing. Of course, this is not the only market that is in contango. 

This is a bad situation for any investor that is long and has to ride down the futures curve, but it is a great opportunity for those investors looking for a liquid investment opportunity. Contango exists for most commodities with the steepest slopes in the energy complex. The only exceptions are in wheat, rice, and cattle. This is not a liquidity or relative value dislocation trade, but an opportunity to profit from the global demand shock.

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