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Cheap Oil and Expensive Oil Tankers: This Is Contango

During the last half of 2008, as the global economy ground to a halt, the price of oil fell from an all-time high of $145 a barrel to less than $40. A lot of people lost a lot of money. Just as in the stock market, though, the oil crash presented a chance to buy crude cheaper than it had been in years and might ever be again. If you had a place to store that cheap oil, you could make a lot of money when prices rebounded.

Thus was born the booming demand for oil tankers, or any other place to stash low-cost crude.

By January 2009, with prices still hovering around $50 a barrel, there were some 90 million barrels of crude in floating storage. The futures markets had entered something traders call contango, a fancy commodities term for the expectation that prices will rise in the future. When the oil market is in contango, a contract to buy crude a month from now costs more than the current price. The further into the future you go, the more expensive it gets. All an oil trader with storage space has to do is sell a futures contract to lock in that higher price a few months down the road and then just sit on it. Some call that hedging. Others call it free money.

With the economy slowly healing, it was a matter of time before commodity prices returned to normal. For most of 2009 the current price of oil was consistently several...


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