Contango and Backwardation

The reason the structure has meaning at all is that a storable commodity can be moved through time. Someone who holds a commodity now can deliver it later, and the cost of doing so is knowable: storage space, insurance, the financing cost of the capital tied up, and whatever the commodity loses in condition or quantity while stored. That cost creates an economic link between a nearer price and a deferred one.

Cost of carry

What it costs to hold a physical commodity from one period to a later one: storage, insurance, financing, and physical loss. It is positive for storable commodities and it is a real, incurred cost.

Full carry

The structure in which a deferred period prices above a nearer one by approximately the cost of carry. This is the reference shape — the market covering the cost of holding, and no more.

Contango

Deferred above nearer. Where the difference approaches the cost of carry, the structure is simply expressing what storage costs. It is the ordinary condition of a storable commodity with adequate supply.

Backwardation

Deferred below nearer. This cannot be explained by carry, since carry cannot be negative — it says the market places a value on having the physical commodity now that exceeds the cost of storing it.

Convenience of holding

The benefit of possessing the physical commodity rather than a claim on it later: being able to run a plant, meet a contract, or avoid a stockout. This benefit is what can push a structure into backwardation.

This is why the two shapes are not symmetric in what they tell you. Contango within the cost of carry is uninformative — it is the market doing arithmetic about storage. Backwardation is informative, because it cannot arise from carry and therefore requires an explanation: something is making present availability valuable. That something is a fact about the current physical market.

The most persistent misreading of these terms is to treat the structure as a prediction. Contango is routinely reported as the market "expecting higher prices" and backwardation as the market "expecting lower prices". Both readings are wrong, and the reason is the carry logic itself: a contango within the cost of carry is what the structure would look like if the market expected the price to be exactly unchanged, because the deferred price must exceed the nearer one by the storage cost regardless of any expectation.

A deferred price is the current price of a deferred contract. It is what the market will transact at now for that later period, given carrying costs, current physical conditions, and everything participants presently believe. It is not a survey of opinion about the future, and its relationship to the nearer price is dominated by cost structure rather than by expectation. Reading a curve as a forecast attributes to belief what is mostly arithmetic about storage.

Agricultural markets complicate the picture in a way that purely industrial commodities do not, because supply arrives in discrete harvests rather than continuously. A structure spanning a harvest is not comparing two points in one continuous supply situation; it is comparing the tail of one crop with the beginning of another, and those are different physical stocks with different availability. A shape across that boundary carries information about the relationship between two crops, and applying the carry logic across it without acknowledging the discontinuity produces confident nonsense.

• Old-crop and new-crop periods describe different physical supplies; the structure between them is not a carry relationship in the ordinary sense
• Within a crop year, the carry logic applies more cleanly, since the same physical stock is being held through time
• Non-storable and highly perishable commodities have no carry and therefore no meaningful curve structure — the concept requires storability
• Storage capacity constrains the logic: if storage is physically full, the arbitrage that would enforce full carry cannot be performed
• The structure describes contract prices, and a party’s actual storage cost may differ substantially from whatever the market is implying
• Where deferred contracts trade thinly, the structure reflects the weakness of those quotations as much as any physical condition

The concept, in short, is well defined for a storable commodity within a supply period and increasingly loose outside those conditions. Its precision is real where its assumptions hold, and neither the terminology nor the arithmetic warns when they stop holding.