Contango is a term used in the futures market to describe an upward sloping forward curve (as in the normal yield curve ) ....From Wikipedia
Usually the price of oil futures ( price of buying oil in the future) are usually higher than spot prices ( present price of oil). This is because oil futures take into consideration the spot price, the cost to store the oil in the meantime and the opportunity cost of not collecting money for the futures till the expiry date.
Hence a simply arbitrage example could be as such. Spot price (today's price) could be $50/bbl. Future price for 6months time is $70. Cost of storing the oil for 6 months could be $10. Hence I can buy one barrel of oil at $50 today, store if for 6 months at a cost of $10. This will incur a total cost of $50+$10 = $60.
Concurrently, I will short the oil futures today at $70. Hence at the end of 6month, I will just have the deliver the oil i bought initially to close the contract. Profiting $70-$60=$10
Such examples are so simple that such opportunities usually do not last very long. However it is happening right now ( according to the article). Hence the article is trying to look deeper into what is happening with the oil market.
Possible reason of this occurrence: The easy oil storage places could be already full. Hence even if you have the money to store the oil, there is no place for you to store it. Hence we are not able to take advantage of this opportunity. Though this can be easily solved by the oil producing countries by not pumping so much oil now,and pump more when the prices go up, BUT they are not doing that. Why?.....
Reason: The oil countries are hard up for cash. So even if they don't earn much from each barrel of oil ( due to the drop of oil prices), all they have to do is sell more barrels of oil.
Here are some statistics :
Russia needs $70/bbl to balance its budget and current accounts. http://www.ft.com/cms/s/bbacc5ac-bc66-11dd-9efc-0000779fd18c,Authorised=false.html?_i_location=http%3A%2F%2Fwww.ft.com%2Fcms%2Fs%2F1%2Fbbacc5ac-bc66-11dd-9efc-0000779fd18c.html&_i_referer=
Venezuela needs $60 to balance its 2009 budget, which is a belt-tightening for Chavez. http://www.economist.com/world/americas/displaystory.cfm?story_id=12853975
Saudi Arabia needs $49 to balance its budget. http://www.bloomberg.com/apps/news?pid=20602099&sid=aoDi6KxVnBR0&refer=energy
In all: We are expecting oil prices to go up, as the oil producing countries NEED the cash. So those of you who have the same belives, you might want to conside these 2 oil ETF to long
- USO - United States Oil Fund (USO US)
- Double-long Crude Oil Fund (DXO US)
Link to the article : http://economistsview.typepad.com/economistsview/2009/01/super-contango.html