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Cash-and-carry arbitrage

Buying the physical commodity, storing and financing it, and selling a futures contract against it to lock in the spread when futures trade above full carry.

The trade is riskless in principle: buy the asset today at the spot price, borrow to pay for it, pay storage and insurance, and simultaneously sell a futures contract that obliges you to deliver at a known price. If the futures price exceeds spot plus all carrying costs, the difference is locked in.

This is the arbitrage that enforces cost-of-carry and caps contango at full-carry. When futures rise above that ceiling, arbitrageurs sell them and buy physical until the gap closes. The reverse trade is harder because you cannot always borrow a physical commodity, which is why backwardation can persist.

Capacity limits matter. If storage is full, the arbitrage cannot be done at any price, and the curve can go into super-contango as it did in oil in 2020.

Example: gold spot $2,400, one-year financing 5%, storage and insurance 0.3%. Full carry is 2,400 x 1.053 = $2,527. If the twelve-month future trades at $2,560, selling it against bought bullion locks in $33 an ounce, or $3,300 on a 100-ounce contract.

Related: cost-of-carry, full-carry, contango, convergence, storage-cost

See it drawn

Original diagrams for the ideas on this page. Illustrative, not real market data.

Contango and backwardationTwo futures curves against contract expiry: one rising above spot, one falling below it.The same commodity, priced for delivery at different dates.78.0076.0074.0072.0070.00Futures pricespot+1m+2m+3m+4m+5m+6mMonths until the contract expiresspot price74.00CONTANGOlater contracts cost more than spotBACKWARDATIONlater contracts cost less than spot
Contango and backwardation. A futures curve shows what buyers will pay for delivery in one month, two months and so on. When later contracts cost more than the spot price the curve is in contango; when they cost less it is in backwardation.

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