Contango vs Backwardation in Oil

The futures curve in one picture

Crude oil trades as a series of futures contracts, one for each delivery month. Plot their prices from the nearest month to months several years out and you get the forward curve. Its slope is one of the most useful indicators in the market, because it reflects the balance between supply, demand and inventories right now. Live curves for both benchmarks are on the Brent futures and WTI futures pages.

Why contango happens: storage economics

In a surplus, oil piles up in tanks. Someone has to be paid to hold it, and the futures curve provides that payment. If a trader can buy oil today, store it and sell a futures contract for delivery in six months at a higher price, the gap must cover storage, financing and insurance. This is the cash-and-carry trade, and it puts a limit on how steep contango can become.

A simple example. Spot crude costs $60 per barrel. Storage costs $0.40 per barrel per month, and financing at 5% a year costs about $0.25 per barrel per month. Over six months the carrying cost is about $3.90. If the six-month futures price is above $63.90, storing oil and selling forward locks in a profit, so traders buy spot and sell futures until the spread narrows. When onshore tanks are full, traders turn to floating storage on tankers, which is more expensive. That is why contango gets steeper as storage fills, as it did in March and April 2020. At its extreme, when no storage is left, the front month can collapse, which is what happened when the expiring May 2020 WTI contract settled at −$37.63 on 20 April 2020. See Cushing, Oklahoma for the storage side of that story.

Why backwardation happens: scarcity and convenience yield

When inventories are low, refiners will pay a premium to get crude now rather than later, because running out would mean idle plants. Economists call this premium the convenience yield. Nobody wants to store oil when the market pays more for it today, so stocks are drawn down. There is no arbitrage limit on backwardation as there is on contango: you cannot borrow oil from the future. Spreads can therefore become very wide during supply crises.

Backwardation in 2026

The disruption to Gulf exports through the Strait of Hormuz from 28 February 2026 created one of the steepest backwardations on record. The clearest sign is the gap between physical and futures prices:

• On 1 October 2026 the EIA's Brent spot price, which tracks physical North Sea cargoes (Dated Brent), was $114.82 per barrel. The front-month ICE Brent futures contract, for December delivery, settled at about $102 that day according to press reports.
• Brent spot averaged $114.16 in September 2026 and reached $130.80 on 15 September after attacks on Saudi Arabia's East-West pipeline (EIA).
• The EIA's October 2026 Short-Term Energy Outlook forecasts Brent at $105 in the fourth quarter of 2026, $87 in the second quarter of 2027 and $74 in the fourth quarter of 2027 as inventories rebuild. That falling forecast path has the same shape as a backwardated curve.

The EIA estimates that global inventories fell by 1.9 million b/d in the third quarter of 2026 and will fall by a further 0.7 million b/d in the fourth quarter. Falling stocks and a backwardated curve go together.

Contango, backwardation and oil ETF returns

Most oil ETFs hold futures rather than physical oil. Before each contract expires, the fund sells it and buys a later month, which is called the roll. In contango, the fund sells the cheaper expiring contract and buys a more expensive one, so it gets fewer barrels for the same money. This negative roll yield means the ETF can lose value even if the spot price is unchanged.

Example: a fund holds $1 million of the front-month contract at $60. At the roll, the next month costs $60.60. The fund can now buy only 1/1.01 as many barrels, a 1% loss on that roll. If the curve stays the same, twelve monthly rolls cost roughly 11% a year. In backwardation the effect reverses and long holders earn a positive roll yield. This is why futures-based funds such as USO lagged the spot price badly in 2020 and outperformed it in 2022. More on fund structures is on oil ETFs and on how the roll works in oil futures rollover.

How to follow the curve

1. Month 1 − month 2 spread. The most watched short-term measure. A positive number means backwardation.
2. Month 1 − month 12 spread. Shows the balance expected over the next year.
3. Physical versus futures. The gap between Dated Brent and the front futures month shows how tight the physical cargo market is.
4. Continuous charts. Continuous futures charts jump at each roll, by the size of the spread. In steep backwardation the chart drops on roll day even if nothing happened. Keep this in mind when reading the oil price chart.