Disclaimer: A very long read
The financial system runs on hidden curves: the contango that quietly bleeds ETF returns, the illiquidity premiums masquerading as alpha, and the Eurodollar machinery that dictates global liquidity while central banks pretend to steer.
This essay is about those curves.
Part I dissects contango, the most misunderstood force in public markets. Part II discussed the global funding base.
In Calm Contango: Dissecting a Misunderstood Market Truth
“There is nothing more deceptive than an obvious fact.”
— Arthur Conan Doyle
It is often said in financial circles—usually by those eager to appear initiated—that a given futures market is “in contango.” The term is spoken with a sort of implicit understanding, as though its mere utterance conveys a deep grasp of market structure, forward curves, and investor psychology. In reality, it tends to reveal quite the opposite.
Contango is among the most misused, misunderstood, and mischaracterized concepts in modern finance. Despite its frequent appearance in media headlines, ETF disclaimers, and algorithmic trading models, it remains for many a ghost term: familiar in sound, elusive in substance. This essay aims to clarify its meaning, its significance, and—perhaps most importantly—what it does not mean.
The Classical Definition
Let us begin with what contango actually is.
In the simplest terms, contango describes a market condition in which the futures price of a commodity (or financial instrument) is higher than the expected future spot price. Often, this simply translates into the futures price being above the current spot price, though the distinction matters.
The most common explanation, and the correct one, lies in the cost-of-carry model:
Futures Price = Spot Price × e^((r + c - y) × T)
Where:
r = risk-free interest rate
c = storage and insurance costs
y = yield or convenience (e.g., dividends, convenience yield)
T = time to maturity
If (r + c - y) is positive—as it often is for physical commodities—the futures curve slopes upward. Thus: contango.
It is not an aberration. It is, in fact, the market behaving rationally.
Across Asset Classes: Contango in Practice
Contrary to popular belief, contango is not exclusive to oil or gold. It manifests across asset classes—albeit in subtly different forms:
Commodities
In crude oil markets, contango may emerge due to oversupply, high storage availability, or weak near-term demand. Traders recall 2009 and 2020, when tanker ships were moored as floating storage, earning returns not from movement, but from stillness.
Equity Index Futures
The S&P 500 futures market (ES) often trades in contango when interest rates exceed dividend yields. Today, the ES curve exhibits mild contango, reflecting a combination of modest rate expectations and low volatility premiums. Here, the carry is financial, not physical.
Volatility Products
Perhaps the most persistent contango appears in the VIX futures curve. Here, the spot index reflects real-time fear, while the futures—typically higher—represent structural insurance pricing. Retail investors in VIX-linked ETFs often discover this the hard way, as the roll cost quietly erodes returns.
Crypto Derivatives
Even in the digital domain, Bitcoin futures exhibit contango, especially in bullish sentiment regimes. Exchanges like CME and Binance have offered futures with significant premiums over spot. The language may be new; the mechanics are not.
What Contango Is Not
It is tempting to imbue contango with predictive power. Many do. But that is a mistake.
Contango does not mean the underlying asset will rise.
Contango does not mean the market is bullish.
Contango does not mean manipulation is afoot.
It is simply a reflection of carry costs, storage dynamics, investor time preference, and, sometimes, a structural bias in derivative markets. Nothing more.
Contango as a Mirror of Time Preferences
To understand contango is to understand how markets value time.
A contango curve signals that the future is priced at a premium—often because holding the asset today incurs costs or risks that the future buyer can sidestep. It is not optimism, but pragmatism.
There is a deep irony here. In a world obsessed with immediate gratification, contango is a bet on deferred reward. The market is telling you, subtly: “We’d rather deal with this later.”
The Dangers of Misunderstanding
The 2020 crude crash offered a painful case study. As WTI collapsed into negative territory—yes, negative—many retail investors were holding long oil ETFs, unaware that their instruments were rolling front-month contracts into steep contango, crystallising losses on each roll.
They weren’t wrong about oil, necessarily.
They were wrong about how time works in markets.
In Closing
Contango is not exotic. It is not esoteric. It is not evil.
It is, in many cases, the rational pricing of a future in which carrying something has a cost. But like many quiet market forces—duration risk, convexity drag, roll yield—it is powerful precisely because it is overlooked.
Contango and the Private Markets: A Quiet, Structural Echo
At first glance, contango would appear to reside squarely within the realm of futures traders, oil majors, and quantitative arbitrage desks. Private market investors, ensconced in multi-year hold periods and bespoke structures, might see little relevance in the daily curvature of a commodity term structure or an index futures strip.
That assumption, while understandable, is misplaced.
Contango, properly understood, is not about contracts. It is about intertemporal value. It is about how markets—public or private—price time, uncertainty, liquidity, and storage of risk. And in that sense, private market participants are very much in its gravitational field, even if indirectly.
Let us consider the multi-order effects.
1. Pricing Illiquidity Premiums: The Invisible Cost of Carry
At the heart of private market investing lies the illiquidity premium—that often-quoted, rarely quantified excess return demanded by LPs in exchange for locking capital into illiquid vehicles. But what is the fair price of deferred liquidity?
In many ways, contango offers a natural parallel. In the futures world, investors pay a premium to avoid the burden of holding an asset now. In private equity, LPs pay (or demand) a premium to exit later. The direction is inverted, but the logic is shared: the time value of risk.
Understanding contango gives allocators a framework for interrogating how fund structures reflect (or misprice) the cost of time. A GP promising quarterly liquidity in a semi-liquid NAV vehicle is engaging, quite literally, in carry trade engineering—offering future liquidity at a premium to spot realizations. One might call this a synthetic backwardation. The parallels are not merely academic.
2. Secondaries, Discount Curves, and Roll Yield
Secondary markets in private equity are increasingly sophisticated, with NAV-based pricing models, discount curves, and projected exit timelines. But what many fail to see is that these secondary curves behave not unlike futures curves.
A portfolio trading at 92% of NAV today, but expected to roll up to par over 18 months, is in structural contango. The buyer, in this case, earns an implicit roll yield by holding the asset as the time-to-exit shortens. That yield can be dissected into time value, asset-specific risks, and market expectations—precisely the same decomposition used by futures traders analyzing spread trades.
And just as futures traders suffer when roll yield is negative (i.e., steep contango), so too do secondary buyers who misprice duration risk. Especially in venture portfolios, where liquidity is both latent and path-dependent, the misjudgment of curve shape can be fatal.
3. Continuation Funds and the “Forward Curve” of Private Equity
Continuation vehicles—those increasingly common structures where GPs roll prized assets into a new fund to extend holding periods—are, in essence, forward contracts on illiquid assets.
Here, the “spot price” is the existing NAV, and the “futures price” is the negotiated valuation in the new vehicle. A continuation fund struck at a premium to current NAV is, economically speaking, a market in contango. And the LPs rolling forward are effectively paying a premium for the right to defer liquidity.
Shouldn’t that premium reflect cost-of-carry considerations? Asset-level cash flow drag? GP alignment risk? Market volatility expectations?
In most continuation fund pitch decks, these factors are mentioned, but rarely priced. That is a mistake—one that a deeper understanding of futures dynamics could help remedy.
4. The Subtle Feedback Loop Between Public Curves and Private Valuations
In the current macro environment—where real rates, inflation paths, and public equity forward curves are shifting almost monthly—private market marks have become even more abstracted from market-clearing prices.
When futures curves steepen (as they have in energy, equity vol, and long-term Treasuries), they embed expectations about financing costs, future cash flows, and systemic risk premia. These expectations ripple into DCF models, comp stacks, and terminal multiple assumptions used in private equity valuation.
A venture portfolio heavily exposed to long-duration, unprofitable growth names is effectively short convexity and long contango—in the sense that its valuation recovery depends on forward optimism being priced more richly than the present. That is not always a given.
5. Liquidity Solutions and Manufactured Roll Risks
As semi-liquid vehicles proliferate—interval funds, NAV-based lines of credit, synthetic side-pocketing—GPs are increasingly being asked to engineer liquidity in a market that lacks a native term structure.
In doing so, they are unwittingly recreating many of the dynamics seen in contango-heavy futures markets: roll risk, timing mismatches, and investor expectations that the curve will flatten before it breaks.
We’ve already seen what happens when ETFs mismanage this. One hopes private funds learn the lesson without the same degree of retail pain.
Contango, then, is not merely a shape. It is a signal—a quiet, often misread signal—that time has a price, that deferred risk carries weight, and that markets—across all asset classes—are constantly engaging in a conversation between now and next.
Private market investors who ignore this conversation risk misunderstanding the most fundamental truth of modern investing:
That liquidity is not binary—it is curved, dynamic, and—like time itself—priced, not promised.
In Defense of Time: A Rejoinder on Contango’s Universal Thread
In writing the above , I anticipate dissent. Not because the arguments are flimsy, but because contango—like any robust framework—invites scrutiny from those wedded to narrower interpretations of market behavior. Some objections are semantic; others cut to the heart of how we define rationality in pricing. Let us address them, not defensively, but as an exercise in refining the thesis.
Objection 1: “Contango Is a Futures-Specific Phenomenon”
The purist’s critique is the easiest to dismantle. Yes, contango was born in the pits of commodity exchanges, where storage costs and interest rates tangibly shaped forward curves. But to claim it cannot transcend those origins is to ignore the universality of time preference—the bedrock of all financial decision-making.
When a venture capitalist marks a startup’s valuation 30% above its last round, despite burning cash, they are pricing a future liquidity event—a form of contango, where the “carry cost” is the risk of dilution or obsolescence. When a private equity GP extends a fund’s life via a continuation vehicle, they are rolling an illiquid position forward, paying (or demanding) a premium to defer the reckoning of today’s NAV. The mechanisms differ, but the DNA is identical: the market is compensating for the friction of time.
Objection 2: “Private Markets Lack the Arbitrage That Enforces Contango”
Here, the critic has a point—but only superficially. It is true that in futures, arbitrageurs enforce the cost-of-carriagequilibrium (buy spot, sell futures, pocket the spread). Private markets, with their illiquidity and opacity, lack such clean mechanisms. Yet arbitrage exists in subtler forms:
Secondaries buyers who exploit mispriced duration risk are engaging in a crude arbitrage of the illiquidity premium.
LPs who reject continuation funds at unjustified premiums are, in effect, shorting contango.
NAV-based lenders who charge higher rates for longer lock-ups are pricing carry into the curve.
The absence of mechanical arbitrage does not negate the economic reality of contango. It merely means the curve is shaped by negotiation rather than competition—a distinction without a fundamental difference.
Objection 3: “Contango Implies Predictability, But Private Markets Are Chaotic”
A misreading of the original thesis. Contango is not a forecast; it is a snapshot of the market’s current compensation for time. The chaos of private markets—the binary outcomes of venture, the zombie funds clinging to outdated marks—does not invalidate the framework. It simply means the curve is stochastic, not static.
Consider the 2022–2023 tech correction: Venture secondaries traded at 40% discounts, not because the assets were worthless, but because the time cost of waiting for exits had exploded. The contango of 2021 (where future exits were priced optimistically) collapsed into a de facto backwardation (where liquidity was demanded immediately). The curve’s shape changed, but the existence of the curve did not.
Objection 4: “This Overlooks Asymmetric Information and Agency Problems”
The most substantive challenge. Private markets are rife with conflicts: GPs marking stale NAVs, LPs trapped by capital calls, continuation funds engineered to benefit sponsors. Does contango’s clean logic survive this mess?
It must—because these distortions are themselves priced into the curve. When LPs discount a fund’s NAV on the secondaries market, they are not just pricing illiquidity; they are pricing the risk that the GP is mispricing. The “contango” here includes a premium for distrust. Similarly, a continuation fund’s premium over NAV often reflects not just time value, but the GP’s ability to manipulate exits. The curve bends, but it does not break.
Objection 5: “Public Market Contango Is Mathematical; Private Markets Are Art”
The quant’s lament. Yet even in futures, the “math” of contango rests on assumptions—storage costs that shift with geopolitics, convenience yields that vanish during crises. Private markets replace these variables with narratives (a founder’s vision, a GP’s track record), but the scaffolding is the same:
A DCF model is just a futures curve with storytelling.
A venture cap table is a portfolio of spread trades, where each round’s price reflects the carry cost of dilution risk.
To dismiss private markets as “art” is to ignore that all pricing—even in the most liquid instruments—is a negotiation between present reality and future expectation.
The Deeper Truth: Contango as a Law of Financial Gravity
These objections, while valid, ultimately reinforce the thesis. Contango is not a rigid formula; it is a lens for seeing how markets—public or private—grapple with the tyranny of time. When a critic says, “But private markets don’t have futures curves,” they miss the forest for the trees:
Every illiquid asset is a forward contract with itself.
Every lock-up is a roll cost.
Every valuation mark is a bet on the curve’s shape.
The 20th century belonged to arbitrageurs who exploited mispriced time in futures. The 21st will belong to those who decode it in both the markets.
Monetary Policy
Why the Funding Base Matters More Than Policy
The conventional view of U.S. monetary policy assumes that the Federal Reserve, through its control over the federal funds rate, quantitative easing (QE), and balance sheet operations, drives global monetary conditions. However, this is a dangerously incomplete and, in many cases, misleading understanding.
The Federal Reserve’s true constraint is not its policy levers but rather the intricate, sprawling, and interconnected global funding base — a complex machinery of collateral flows, offshore dollar markets, reserve structures, and global asset allocations.
The purpose of this framework is to construct an exhaustive understanding of how the global funding base actually works, devoid of theoretical oversimplifications. I will attempt to build this from first principles and practical market mechanics, tracing the interlocking dependencies that determine global financial conditions — and, most importantly, attempt to demonstrate why the Federal Reserve has far less control than commonly assumed.
1. The Eurodollar System: Where Global Dollar Liquidity Actually Sits
The first critical layer to understand is that the U.S. dollar funding base does not reside within the United States. Global liquidity is predominantly provided by a vast and opaque offshore dollar market — known as the Eurodollar market.
What Is the Eurodollar Market?
The Eurodollar market refers to any U.S. dollar deposit, credit, or liability that exists outside the jurisdiction of the United States. It began in the 1950s but evolved by the 1970s into the largest source of global funding, particularly for international banks, corporations, and sovereigns.
Key Mechanic: Eurodollars Are a Parallel Dollar Supply
In practical terms, this means:
When a European bank like Deutsche Bank loans dollars to a company in Brazil, no actual dollars move from the U.S. Treasury or the Federal Reserve.
Instead, Eurodollars are simply credit creations in offshore banking ledgers.
What Happens During Tightening Cycles
When the Federal Reserve tightens, U.S. Treasuries fall in price, forcing collateral margins to increase.
This creates a cascading global liquidity contraction.
Foreign borrowers scramble to obtain dollars to cover margin calls, driving up global dollar demand.
The result: global financial contraction independent of U.S. economic conditions.
4. The Fundamental Constraint: Fed Policy Is Neutralized by Collateral Dynamics
At this stage, we can define the first critical finding of our framework:
The Federal Reserve does not control global dollar liquidity; it only influences the value of collateral.
When the Fed tightens, it destroys collateral value, triggering global funding contraction.
When the Fed eases, it floods the U.S. system with reserves, reducing collateral scarcity — but creating dislocations in Treasury markets.
In both scenarios, global funding conditions neutralize the intended effect of monetary policy.
5. The Second Constraint: Reserve Currency Privilege Masks Fragility
The next layer of complexity lies in the U.S. dollar’s status as a global reserve currency.
Why Reserve Currency Status Is Fragile
The U.S. can run enormous fiscal deficits without immediate funding consequences because demand for Treasuries is global.
However, if foreign holders of U.S. assets begin selling Treasuries (to finance their own deficits or asset purchases elsewhere), dollar liquidity collapses.
This would force the Federal Reserve into extreme interventions to prevent systemic collapse.
The Hidden Fragility: European Fiscal Expansion
A friend accurately identified that Europe is rapidly expanding its fiscal capacity through deficit financing.
If European bonds become attractive enough, central banks may sell U.S. Treasuries to buy European debt.
This would be catastrophic for U.S. funding stability.
6. The Final Constraint: The End of Single Reserve Currency
How Fragmentation Happens
Europe continues issuing large-scale sovereign debt, providing an alternative to U.S. Treasuries.
Major emerging markets (China, India, Gulf States) begin reducing dollar reserve exposure.
Crypto markets offer parallel money, reducing dollar dependence in international settlements.
Consequence: The Dollar’s Exorbitant Privilege Ends
Once demand for U.S. Treasuries collapses, the Federal Reserve loses the ability to unilaterally control global funding conditions.
The U.S. fiscal position becomes unsustainable.
Global liquidity fractures into competing zones.
The Federal Reserve’s Invisible Trap
We can now state that the Federal Reserve operates under a false perception of control. The true global funding base is governed by:
Collateral mechanics (U.S. Treasuries as collateral).
Offshore dollar demand (Eurodollar markets).
Foreign reserve management (central banks adjusting dollar holdings).
Relative fiscal attractiveness (European bonds vs. U.S. Treasuries).
This structure fundamentally constrains the effectiveness of monetary policy.
Any tightening or easing creates unintended second- and third-order effects that ripple across the global funding base, often rendering U.S. monetary policy inert.
The ultimate risk is a sudden, mass divestment from U.S. Treasuries, driven by:
Rising European fiscal power
Alternative money systems
Declining dollar demand
— ultimately triggering a global funding collapse beyond Federal Reserve control.
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