DEFINITION of 'Forwardation'
- A term used in pricing futures contracts. Forwardation is a standard scenario in futures trading whereby a future price of the underlying commodity would be more than the expected spot (or immediate delivery) price. The increase in price can be justified or predicted based on additional costs for hard or soft commodities such as delivery, insurance, storage, etc.
- Forwardation can be more difficult to justify and/or calculate with financial instrument futures.
- Also referred to as "contango."
- Opposite of backwardation.
BREAKING DOWN 'Forwardation'
Over time the market will continually receive new information which it will use to adjust the future and expected future spot price - the most rational future price - of a futures contract. More information will typically have the effect of depressing, or lowering, the futures price. A market in forwardation takes these variables into account to determine the futures price; however, the actual spot price will often deviate from the expected price.