Why do we need normal contango and backwardation theories? How do you execute these theories to...
Why do we need normal contango and backwardation theories? How do you execute these theories to make practical investment decisions?
Homework Answers
A contango theory is one where the futures prices of commodities are above the spot prices of the commodities meaning that people are willing to pay more in the future for the commodity than its actual price.
On the other hand, backwardation is the exact opposite of contango. Here, the future prices of a commodity are below the spot prices of the commodity meaning that people are willing to pay less in the future for the commodity than its actual price.
These theories are used in practical investment decisions. If an investor is going long on a contango, he will lose money and will have to hedge the risk using other futures and options.
On the other hand, if an investor is going short on a backwardation, he will again lose money and will have to hedge the risk.
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