Futures' Physical Delivery makes no sense!

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sydneybound

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and i'm not 'new' to the industry, i've been working for traditional funds management for many years now (back office until my move to sydney). of course things are different in my work life than what i'm actually interested in, but i keep on learning.

question: besides gold, most other hard assets have carrying costs, so they should be normally backwardation, correct? damn, i can't believe i've forgotten all of this from my studying.

'Frankly my dear, I don't give a damn.'
 
Good job Sydney. Futures are really much more interesting than they first appear. It's not that gold is quite different from all the other assets, it's that all the asssets are different from the other assets. Except for platinum. It's the same as gold. ;-)
 
what about natural gas, with its backwardation trend but with seasonal cycle?

doesn't that tell someone looking at this that the reason why it goes in cycles is because people are more willing to pay more during the winter for nat. gas because they need it to heat their homes....or do you explain it the following way: the reason it goes up during the winter, compared to summer, is because there are expectations that the spot price at that time will be higher, therefore the current futures contract is at a level that arbitrages away carrying costs (ie. backwardation) but at the same time is higher relative to the summer price leading up to it because there will be more demand for it.

it seems that this 'future spot price' talk is equivalent (in my head anyway) to a futures contract and that buying a 2008 and 2009 december futures contract would be something i woudl do because i think that there will be even more geopolitical risk in the next 5 years than people expect, which will drive up natural gas prices (even higher than current future spot prices, taking carrying costs into consideration).

thoughts?

i'll leave gold alone, because it doesn't really react the same as other hard and soft commodities.

'Frankly my dear, I don't give a damn.'
 
Sydney - If you own physical gold, you lease it to people (despite dozens of books suggesting that you pay storage and insurance costs which costs you money which creates a cost of carry). Natural gas is stored in refrigerated storage facilities at -263 degrees or compressed gas facilities with highly volatile and explosive gases (on the magnitude of nuclear weapons). Storing natural gas when it's out of the ground is very expensive so a futures price is much more like an expected spot price.
 
so, besides my thoughts on gold (i forgot about the benefits of lease income), i'm thinking the right way, but just not explaining it the same way you are. with gold, i see it as the futures price is set to at a price to take into account the benefits of leasing adjusted against the expected future spot price.

anyway, it was interesting speaking to people like you.

'Frankly my dear, I don't give a damn.'
 
I'd like to give you that. One way to think about futures markets is to divide them into arbitrage, semi-arbitrage, and arbitrage-free markets. Precious metals and most financials are arbitrage markets and have nothing to do with expected spot prices. Crude is a semi-arbitrage market in that storage costs are pretty high, but the play works in keeping the contracts aligned. Lumber and hogs have no arbitrage because you can't redeliver.
 
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