An empirical study of backwardation in commodity markets (1990-2012), based on the theory of storage and the convenience yield

Abstract

In this thesis, I examine the variation in the net cost of storage for five different commodities by using an ANCOVA model, based on arguments derived from the theory of storage. The net cost of storage is in this thesis defined as the interest adjusted relative basis, between the spot price and a futures price. The variation in this variable is particularly interesting, as it is assumed to be highly correlated with the convenience yield. Furthermore, I conduct a test for a structural break in the model after 1999, to see whether the increase of speculative positions in commodity markets have influenced the valuation of the convenience yield. This thesis also includes a discussion on the possible behavioral and economical incentives that different market participators might have to store commodities at a negative return.

The commodities included in this study are CBOT corn, CBOT soybeans, CBOT wheat, NYMEX WTI and COMEX copper. The data set consists of monthly observations from March 1990 to December 2012 .

This paper contributes to the field of commodity analysis by presenting empirical proof concerning the validity of the theory of storage. As predicted by the theory, I find that changes in the inventory level clearly affects the relationship between the spot price and the futures price in commodity markets. The inventory’s effect on the net cost of storage is also found to be affected by seasonal cycles in the commodity’s supply. Further, I also present results indicating that the total composition of market participants influences the behavior of the convenience yield.

My thesis offers an interesting approach on commodity markets, relevant for commodity hedgers, speculators and others with a particular interest in commodity prices.