Understanding Roll Yield

Roll yield is the gain or loss that results when an investor replaces (or “rolls”) a near-term futures contract with a later-dated contract. It arises from differences in prices between contracts with different expiration dates and plays a central role in returns for investors who hold futures or futures-based funds without taking physical delivery.

How roll yield arises

• Futures contracts converge to the spot price as they approach expiration. Investors who do not want delivery will sell expiring contracts and buy later-dated contracts to maintain exposure.
• The price difference between the expiring contract and the new contract creates the roll yield: you either buy the later contract for more (negative roll yield) or for less (positive roll yield) than the price you sold.

29.3 billion futures and options contracts were traded worldwide in 2022, illustrating how common rolling activity is across markets.

Backwardation vs. Contango

• Backwardation: Near-term futures trade at a premium to longer-term futures (future prices are below expected spot prices). Rolling in backwardation typically produces a positive roll yield because you buy the later contract at a lower price than the expiring contract.
• Contango: Longer-dated futures trade at a premium to near-term futures (future prices are above expected spot prices). Rolling in contango produces a negative roll yield because you buy the later contract at a higher price than the expiring contract.

Example: Holding 100 crude oil contracts
– If the market is in backwardation and later contracts are cheaper than the expiring ones, rolling into later contracts lowers your cost and generates positive roll yield.
– If the market is in contango and later contracts are more expensive, rolling increases your cost and produces negative roll yield.

How to roll a futures contract

1. Close (sell) the near-term contract before it expires, realizing any gain or loss on that position.
2. Open (buy) a longer-dated contract to maintain exposure.
3. The net effect on your returns from this two-step transaction is the roll yield, adjusted for transaction costs.

Calculating roll yield

A practical formula:
roll yield = (total change in futures price) − (total change in spot price)

In other words, roll yield measures how much of the total futures return comes from the futures curve shifting (the price difference between contract months) rather than movement in the underlying spot price.

Costs and risks

• Direct cost: the price difference between the expiring contract and the longer-dated contract.
• Additional costs: commissions, bid-ask spreads, slippage, and potential financing or margin impacts.
• Risk: Persistent contango can produce sustained negative roll yield and materially reduce returns for investors and funds that continuously roll futures positions.

Practical considerations for investors

• Determine whether the futures curve for your asset tends toward backwardation or contango and how frequently you will need to roll.
• Factor roll yield and transaction costs into expected returns for futures-based strategies or exchange-traded products.
• Monitor market structure changes; a shift from backwardation to contango (or vice versa) can change roll yield behavior quickly.

Bottom line

Roll yield is a key driver of returns for investors who maintain futures exposure without taking delivery. It can be a source of profit in backwardated markets and a source of loss in contangoed markets. Successful management of futures positions requires understanding the futures curve, anticipating roll costs, and incorporating roll yield into investment decisions.