What is a Front Month
A front month is used in futures trading to refer to the contract month with an expiration date closest to the current date. This is often, but not always, in the same month as the current date. It is also often, but not always, the most actively traded month.
Contracts that have later expiration dates than the front month contracts are called the back month contracts.
BREAKING DOWN Front Month
Front month contracts are generally the most liquid futures contracts for a given commodity or futures market. In addition, they usually have the smallest spread between the futures price and the spot price on the underlying market. Use of front month contracts requires an increased level of care, since the delivery date may lapse shortly after purchase, requiring the buyer or seller to actually receive or deliver the contracted commodity.
More on Front Months and Expiration Months
Futures contracts have different expiration months throughout the year and many extend into the next year. Each futures market has its own specific expiration sequence. For example, financial instruments, such as the Standard & Poor's 500 E-mini futures or the U.S Treasury Bond futures, use the quarterly expiration months of March, June, September, and December. Commodities markets are loosely tied to their mining, harvest, or planting cycles, and may have five or more delivery months in one year. And energy futures, such as crude oil, have monthly expiration dates as far into the future as nine years.
It is important to note that expiration dates and last day of trading dates are not the same. For energy especially, contracts stop trading in the month prior to the expiration month. Therefore, selecting the proper expiration month for a trading strategy is quite important.
The typical state for most futures markets is for the front month or spot price to be below futures prices in the following expiration dates, which, in turn, are below longer-dated futures prices. This is known as normal backwardation and makes sense for physical commodities that require storage, financing, and insurance. The longer out until expiration, the higher the costs incurred.
When the front month or spot price is above the next expiration date, which, in turn, is above longer-dated futures prices, this is known as contango.
Both states of the market are important to know for futures strategies that involve rolling over positions as they near their respective expiration dates.