The Brent premium to West Texas Intermediate (WTI) on Friday (October 18, 2013) was $9.14/Bbl – indicating a new disconnect between US crude prices and international levels. Unlike last time a big Brent premium to WTI opened up in 2010 the price of Light Louisiana Sweet at the Gulf Coast is still tracking with WTI rather than following Brent. This suggests that the US Gulf Coats is long crude at the moment and that imports of Brent priced crude are not required. Today we discuss the current Gulf Coast crude market.
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Brent/WTI Spread Recap
This is the latest in a long running series of blog updates on the relationship between WTI and Brent – known as “The Spread”. This time, the party is joined by Louisiana Light Sweet (LLS) crude – because we are talking about the Gulf Coast region - where LLS is the benchmark crude. We begin as usual with a recap of the spread saga so far.
Three years ago in June 2010, prices for the international benchmark Brent crude and the US domestic benchmark WTI traded within $1/Bbl of each other as they had for years. Then in August 2010, WTI began to trade at a discount to Brent that widened out as far as $28/Bbl in November 2011. The spread averaged $18/Bbl in 2012. In 2013 the spread widened out again to $23/Bbl in February before narrowing rapidly to almost par in July (see Strangers in the Night). Since July Brent and WTI traded in a fairly narrow range through mid-September but the two have now started to go their own way again with Brent moving out to a $9/Bbl premium over WTI during this month (October).
The WTI discount to Brent widened in August 2010 because of a build up of crude inventory at the Midwest Cushing, OK trading hub. Growing crude production in North Dakota and Western Canada overwhelmed Midwest refinery needs and got caught in Cushing because of inadequate pipeline transport capacity to Gulf Coast refineries. The spread narrowed again as Cushing inventories peaked and started to decline in the spring of 2013. Between April 2013 and October the Cushing crude stockpile fell consistently – by 18 MMBbl from over 51 MMBbl on April 19, 2013 to 32.6 MMBbl on October 4, 2013 (see The Cushing Floodgates Open). That outflow of crude from Cushing was caused by a combination of factors. More capacity opened up between Cushing and Houston on the Seaway pipeline and between the Permian Basin in West Texas and Houston on the Longhorn and West Texas Gulf pipelines. During 2012 and early 2013 there was a boom in crude by rail movements to bypass Cushing – particularly from North Dakota to the Gulf, East and West Coasts. At the same time Midwest refineries began to absorb more of the Cushing stockpile and constraints in Canadian pipelines to the Midwest reduced incoming crude to Cushing. Finally the crude futures market flipped into “backwardation” meaning that prices for delivery during further out months into the future are lower than prices for immediate delivery. Backwardation results in market participants who keep crude in storage paying a double penalty – the cost of storage rent and the loss in crude value over time – incentivizing them to reduce inventory levels where practical.
Since Last Time
After the July rapprochement between Brent and WTI we wrote about lower refinery margins caused by Gulf Coast refiners no longer being able to purchase inland crudes like WTI at a big discount to international crudes priced against Brent (see Money for Nothing (I Need My 3-2-1)). During September we described a run up in both WTI and Brent prices due to the Syrian chemical weapons situation and threats to Libyan production (see War Huh – What is It Good For?). That geopolitical premium deflated as the threat to Middle East supplies subsided and since then WTI prices have drifted down close to $100/Bbl.
New Brent Disconnect?
This month’s big spread theme is that Brent prices have taken off on their own track since the end of September even as WTI prices retreated. That has caused the Brent premium to WTI to widen to more than $9/Bbl. Our story today is concentrated on the Gulf Coast so we introduce LLS to the picture as well. During the three-year long Brent/WTI disconnect, LLS pretty much tracked Brent prices because, as a coastal crude its price was set by the international market. Since the WTI/Brent spread narrowed this year LLS has tracked closer to WTI. The chart below shows prices for the three crudes in this equation since July 2013 - Brent (green line), WTI (blue line) and LLS (red line). Up until the 20th of August, all three crudes traded together in a narrow range with Brent in the middle at a discount to LLS and a premium to WTI. Then Brent prices took off higher on their own – rising past LLS. This initial strength in Brent prices was primarily due to the Syria crisis and supply problems in West Africa that supported higher Brent prices for a few weeks until they fell back towards LLS during the second week in September (brown dashed circle on the chart). However a couple of weeks later Brent was back on its own track again – this time moving higher as both LLS and WTI fell (black dotted arrows on the chart).