DATASTREAM FUTURES CURVES

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1 DATASTREAM FUTURES CURVES THOMSON REUTERS DATASTREAM - FUTURES CURVES A futures curve plots futures prices (y-axis) against contract maturities (i.e., terms to maturity). This is analogous to a plot of the term structure of interest rates: we are looking at prices for many different maturities as they extend into the horizon. The chart below plots a normal market for Gold and an inverted market for Brent Crude as of 18 th November, GOLD VERSUS BRENT CRUDE Whist the Gold curve depicts a normal futures curve the Brent Crude on the Thomson Reuters Datastream provides access to CTD static data for each other maturity hand, depicts month an for inverted major bond market. future markets plus continuous time series for the near month positions. A list of available markets can be found in Appendix 1. In an inverted market, the futures price MATURITY: LIFE DATATYPE The datatype LF provides the no. of calendar days the future has to maturity, whilst LTDT displays the exact last trade date. LF can now be used with futures lists in Datastream Charting as scatter time series to produce a futures curve. CONTANGO VERSUS BACKWARDATION The shape of the futures curve is important to commodity hedgers and speculators. Both care about whether commodity futures markets are contango markets or normal backwardation markets. for faraway deliveries is less than the spot price. Why would a futures curve invert? Because, in the case of a physical asset, there may be some benefit to owning the asset (called the convenience yield) or, in the case of a financial asset, ownership may confer a dividend to the owner. A few fundamental factors (i.e., the cost to carry a physical asset or finance a financial asset) inform supply/demand for the commodity, which ultimately determines the shape of the futures curve. If we really want to be precise, we could say that fundamentals like storage cost, financing cost (cost to carry) and convenience yield inform supply and demand. Supply meets demand where market participants are willing to agree about the expected future spot price. Their consensus view sets the futures price. And that's why a futures price changes over time: market participants update their views about the future expected spot price.

2 Contango and Normal Backwardation: Patterns over Time We have established that a futures market is normal if futures prices are higher at longer maturities and inverted if futures prices are lower at distant maturities. This is where the concept gets a little tricky, so we'll start with two key ideas: As we approach contract maturity (we might be long or short the futures contract, it doesn't matter), the futures price must converge toward the spot price. The difference is called the basis. That's because, on the maturity date, the futures price must equal the spot price. If they don't converge on maturity, anybody could make free money with an easy arbitrage. The most rational futures price is the expected future spot price. For example, if you and your counterparty both could foresee that the spot price in crude oil would be $100 in one year, you would rationally settle on an $100 futures price. Anything above or below would represent a loss for one of you! Now we can define contango and normal backwardation. The difference is that normal/inverted refers to the shape of the curve as we take a snapshot in time. Contango and normal backwardation refer to the pattern of prices over time. Specifically, is the price of our contract rising or falling? Contango is when the futures price is above the expected future spot price. Because the futures price must converge on the expected future spot price, contango implies that futures prices are falling over time as new information brings them into line with the expected future spot price. Normal backwardation is when the futures price is below the expected future spot price. This is desirable for speculators who are "net long" in their positions: they want the futures price to increase. So, normal backwardation is when the futures prices are increasing. The recent run in spot prices has resulted in the oil futures market moving into backwardation meaning the forward price is less than the current near-month and/or spot price. In a normal market, oil futures typically trade in contango where the forward price is higher than the near-month to compensate for the cost of storage in addition to factoring in the risk of carry. The following chart displays the Brent crude curves at different times in its history, against the constant maturities to delivery, whilst the current curve displays an inverted crude, last year it was flattening out and two years ago it can be seen to display the natural contango curve.

3 THOMSON REUTERS DATASTREAM - CHARTING FUTURES CURVES Clients can chart futures curves as follows; a) A single futures curve on one chart b) Two different futures curves (for example, gold and crude oil) on two separate panes c) A single futures curve with up to 4 different historical dates The curves are plotted by using the futures live (current view) and together with dead futures list to provide an historical viewpoint. In addition the curves can be plotted with the DS mnemonic as well as the last trade date clearly highlighting each point.

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