Crude oil now trading in signficant contango

October 19, 2016 by Matt McCracken

Oil is crashing yet again this morning nearing the $50/barrel mark.  A level that is likely significant for many parties, the least of which is producers seeing their margins crashing even faster.    Derivative securities of CL such as USO, RB and BZ are suffering as well.  While the general sentiment for oil is obviously bearish, there is one critical piece of evidence that is resoundingly bullish.  Crude oil is now trading in significant contango which means contracts expiring further in the future are at a premium to the current expiration.  The FEB '15 CL contract (ticker for West Texas Intermediate Crude) is trading at $50.26 as I'm writing this while the Dec '15 CL contract is trading at $57.06, a nearly 14% premium. 

I've been told by sources I deem to be reliable, when a commodity trades in contango, the market thinks the price is going up.  So sooner rather than later, a bottom should take place in CL (and all contracts correlated to it such as RB, HO and BZ).  We won't be catching a fallling knife and I'm relatively certain our models will take a while to trigger a buy in CL so we are not getting long at this point or probably any time in the immediate future.  But the fact the commodity is trading in contango and doing so in such significant fashion has our "radars on alert".  (For full disclosure, our C3 portfolio has a paired trade in CL and USO but our net exposure is limited.)