Contago is the NORMAL state of futures market. It is hardly rare. Here’s some explaination from intitutional advisor Donald Coxe taken from page 17 of the May issue of Basic Points:

Backwardation refers to a commodity price structure where the spot price is the highest price, and prices decline the further they move into the future.

The opposite of that is the contango, the traditional commodity situation, where the spot is the lowest price, and the futures prices are higher than the spot price. In many commodities, the prices move upwards on the curve in line with the Eurodollar costs of holding inventory.

Almost the only way to get backwardation on a multi-year basis in a bull market is for producers to sell forward. When speculators sell forward, they are assuming substantial risk. Had they been selling oil and gas (and for that matter, the metals) since 2001, they’d have become as populous as whooping cranes. Producers sell forward what they know they will be eventually producing, thereby assuming only an opportunity cost risk (and a mark-to-market accounting risk on futures contracts outstanding after the end of an accounting reporting period).

Heavy shorting by the commodity hedgies, combined with the heavy shorting of the oil industry’s hedgehogs (see p. 20) meant that the highest price for oil would always be the spot price, and that the forward curve would show declining prices for months and even years. That pricing structure naturally meant that refiners and consumers would always maintain the lowest possible level of inventories, because the cost of holding crude could be precisely calculated.

Conversely, when the hedge funds and most of the oil companies took off their forward short positions, the curve swung into contango, with prices strongly upward-sloping. That meant refiners and consumers were being paid to hold excess inventories. Result: US oil inventories rose for 14 straight weeks. To casual observers, this proved oil was in vast oversupply.

To us, it meant that oil had been taken out of the forward curve and placed in inventory. Rather than relying on buying oil cheaper in coming months because the curve said prices would keep falling, consumers were building inventories, thereby saving money.

The general rule is that it costs 50 cents a month to hold a barrel of oil in inventory. Therefore, as long as the forward curve is priced higher than 50 cents a month, the consumer is financially ahead by holding excess supplies-the exact opposite of what was a winning strategy for two decades. Bonus: those extra barrels of oil held for less than zero cost provide a hedge against any of the possible catastrophes that could send oil sharply skyward, such as a successful Al Qaeda attack on Saudi Arabia or Abu Dhabi, or all-out civil war in Nigeria.

This discussion of the impact of hedge funds on commodities and commodity stocks is background to our argument that the modest market capitalization of commodity stocks (other than the super major oils) makes them particularly susceptible to big sell offs when hedge funds change their bets on the outlook for the US and/or the Chinese economy

Are you adding in some sort of additional cost for physical delivery?

Today, almost US$60k profit later, I think it goes beyond contango… there is a trend here: distant futures are increasing in value faster (for the most part) than near-term contracts.

If the tred continues, within about 4-5 months, each month will be priced higher than the preceeding month, and the expectation of peak-oil affects on the market will nop longer be debatable…