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News Link • Precious Metals

Palladium Pandemonium - Short Squeeze Sends Precious Metal Spreads Parabolic

•, by Kevin Muir

Usually, metals' futures markets trade in contangos. The future price is higher than the spot price to account for the opportunity cost of holding (or financing) the long position in the underlying metal.

There is also a cost of storage which needs to be incorporated into this calculation. Arbitrageurs keep the prices in line, and whenever the futures price rises too much, they sell the future, buy the spot, finance the position and arrange for storage. On expiry, they deliver into the futures contract, earning their profit. If the future prices are too cheap, then either arbitrageurs unwind, or might even borrow the metal short to sell in the spot market, and cover by taking delivery for their futures long position. Also natural long buyers who are willing to wait, could buy the forward contract, content to own their metal at a discount to spot later. Assuming there is a properly functioning metals market, the futures price should not deviate too far from the cost of carry.

Which is why today's action in the palladium market is so interesting. Buyers are willing to pay a large premium for the contracts that expire earlier (which is the exact opposite of what should occur).

Have a look at the prices for the different palladium contracts.

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