What is 'Carrying Charge Market'

Carrying charge market is a futures market where contracts with maturities further into the future have higher future prices relative to current spot prices. The name comes from the fact that these higher future prices are associated with increased carrying charges, such as interest, insurance and storage for holding the commodities for a longer period of time. Because a carrying charge market incorporates the full cost to carry a commodity, it is also called a "full carry market."

BREAKING DOWN 'Carrying Charge Market'

Carrying charge market prices generally increase in correlation to the duration of the contracts involved.

Futures contracts offering lower prices for short-term trading can represent in indicator of a carrying charge market. This indication can be confirmed by comparing those prices to the increased prices for a similar contract whose only difference is a longer term to the expiration date.

For a specific contract in a carrying charge market, the contract price will eventually move closer to the spot price. This happens as time passes and the expiration dates near for these contracts that originally involved a longer term.

Carrying charge market and unexpected fluctuations

Under normal circumstances, a carrying charge market means you could calculate future prices by starting with the near month futures and adding the carrying charge. Still, it is important to remember that prices of any given commodity can fluctuate depending on supply. Shortages or other unexpected situations that drastically impact supply can in turn affect spot prices. If the underlying situation causing the shortage is resolved fairly quickly, the impact on prices may be confined to a limited time. This explains why there are cases where the spot price may be high in comparison to the future price.

A carrying charge market can represent the fluctuations seen as a result of these types of situations. For example, if it costs $1 a month to insure and store a half bushel of corn, and the spot price is $6 per half bushel, a contract for a half bushel of corn that matures in three months should cost $9 in a carrying charge market. However, when a commodity is in low supply, spot prices might be higher than future prices. This higher price helps to ration the limited supply. In this scenario, you could have what is commonly referred to as an inverted futures curve, as known as an inverted market, because it doesn’t follow the usual trajectory where the expected future price would be more, but the spot price and future price would eventually converge.
 

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