Under most circumstances, the nearby contract will provide the best roll return—but not always. Each ag commodity has a unique crop year that represents its growing cycle from sowing to harvest. Corn's crop year, for example, runs from November through the following September, while Chicago wheat's year starts in July and ends in the following May. Each crop year has its own supply and demand dynamic, so prices can vary widely from one year to the next. That can sometimes make the futures term structure look screwy, as one crop year may be in contango, while another is inverted. Or it may seem like a cascade of successive backwardated markets, or a stairway of contangoed crop years.
Not surprisingly, this can mess up DBA's roll strategy. For example, DBA will soon be obliged to roll its long cotton position from the March to the May delivery, even though new crop cotton is presently cheaper.
The vast majority of DBA's constituents are currently in contango. More than a few, however, invert in subsequent crop years. Inversions, or backwardations, occur when supplies are deemed tight.
Sugar, for example, has been a boon for DBA, as the entire term structure is backwards, meaning forward rolls are positive. What's more, sugar remains an optimized commodity under the new index methodology, allowing some yield shopping. But the drag of contango in the other commodities, however, has trumped most of sugar's benefit.
DBA Constituents
|
Commodity |
Weight In DBA |
Market Condition |
|
Feeder Cattle* |
4% |
Contango through Sep '10 |
|
Live Cattle* |
12.5% |
Contango ‘til Jun '10; inversion through Jun '11 |
|
Lean Hogs* |
8.3% |
Contango ‘til Jun '10; inversion through Feb '11; contango thereafter |
|
Corn |
12.5% |
Contango through Jul '11; inversion to Dec '11; contango through Jul '12; inversion for the balance of the '12 and '13 crop years |
|
Chicago Wheat |
6.3% |
Contango through the '12 crop year |
|
Kansas City Wheat |
6.3% |
Contango through the '12 crop year |
|
Soybeans |
12.5% |
Contango through Jun '10; inverted through Nov '10; contango thereafter |
|
Sugar |
12.5% |
Inversion through Oct '12 |
|
Cocoa* |
11% |
Contango through Sep '10; inversion through May '11 |
|
Coffee* |
11% |
Contango through Dec '12 |
|
Cotton* |
2.8% |
Contango through Jul '10; inversion through Dec '10; contango thereafter |
*Commodity required to roll expiring futures into matrix-specified contracts
There's good news and bad news in all this. The bad news is that contango has plainly been a wet blanket for holders of futures-based products such as DBA. The good news is that this situation is reversible. That is, many of the markets now flush with enough supply to carry over into subsequent crop years can invert.
Note, however, that's a big can, not a will. Shortage is the quickest route to backwardation. Some commodities, particularly the soft commodities, are closer to that state than others.
