Metals strong when spreads point to tightness

UNITED KINGDOM July 18 2017 10:25 AM

LONDON (Scrap Register): Metals are among the commodities that tend to fare best when time spreads suggest market tightness, said Goldman Sachs.

According to the bank analysts, the physical nature of commodities has always been the cornerstone of our research framework. Lower inventory levels tend to lead to more backwardated futures curves for both oil and copper.

Backwardation is when forward contracts are more expensive than the deferred, often seen as a sign of market tightness and the reverse of the normal spread. In the case of metals, super backwardation is associated with both positive roll yields and price increases, boosting total returns.

On a risk-adjusted basis, returns have been the highest for metals when one-year time spreads are in the top quintile of their historical distributions.

“Therefore, a carry strategy that goes short in the first [to] seventh deciles and goes long in the eighth [to] 10th deciles has the potential to improve the performance of metals investment,” Goldman added.