Explain the Term “Backwardation” in Futures Markets.
Backwardation is a market condition where the current spot price of an asset is higher than the price of its futures contract for a future delivery date. This is the opposite of Contango.
Backwardation is often seen in commodity markets when there is a high current demand or a perceived shortage of the asset, and holding costs are low or negative.
Glossar
Holding Costs
Cost ⎊ Holding costs encompass all expenses incurred to maintain an open position in a financial instrument over a period of time.
Current Demand
Definition ⎊ Current demand represents the immediate market interest in purchasing a specific asset at prevailing price levels.
Backwardation
Contango ⎊ ⎊ Backwardation, within cryptocurrency derivatives markets, signifies a futures contract price trading below the expected spot price, a deviation from the more common contango structure.
Commodity Markets
Derivatives ⎊ ⎊ Commodity markets, within the context of cryptocurrency and financial derivatives, represent underlying assets ⎊ ranging from energy and metals to agricultural products ⎊ whose price discovery mechanisms are increasingly mirrored and synthetically replicated via decentralized instruments.
Spot Price
Valuation ⎊ The spot price in cryptocurrency, options, and derivatives represents the current market-clearing price for immediate delivery of the underlying asset, functioning as a fundamental benchmark for pricing more complex instruments.
Shortage
Definition ⎊ A shortage occurs when the demand for an asset exceeds its available supply at the current market price.