WTI and Brent are the two markers for the oil market. It doesn’t matter which one you buy as the oil market is one market; both sorts of crude oil may trade with a widening or narrowing spread, yet both will move in the same direction, be it either up or down.
However, Brent and WTI actually trade with a spread of $10. To begin with, WTI is a marker for pipeline crude, landlocked; inventories in Oklahoma are monitored in order to determine the status of the market for WTI. Brent is a tanker market.
Both crude sorts reflect the global status of the oil market as well as regional factors. So let’s take a closer look at WTI.
WTI reflects the market in northern America. Crude oil is supplied via pipelines to Oklahoma.
The FT reported on 11 February 2011 that due to the use of modern drilling technology, the output from the Bakken oilfield in North Dakota has surged. Crude is transported by train from North Dakota to Cushing in Oklahoma, adding crude oil to the inventories at Cushing.
From Cushing, the crude can only be transported via pipelines to nearby refineries. As refinery capacity is limited, stocks of crude oil in Cushing surged and depressed the price of WTI because Cushing is the delivery point for the WTI contract.
Therefore, the spread between WTI and Brent widened. The crucial point here is that Cushing lacks the opportunity to transport its crude to other refineries in the US, e.g. the Gulf Coast.
These facts can be checked easily. The US Department of Energy is an excellent source. The following figures are from www.eia.doe.gov/petroleum; I love it.
North Dakota, and hence the Bakken oilfield, is part of PADD2. Crude oil production from PADD 2 surged from 18,187 barrels in January 2010 to 22,108 barrels in November 2010. In North Dakota, crude oil production increased from 7,320 barrels in January 2010 to 10,263 barrels in September 2010. At the same time, the percentage of refining capacity used in PADD 2 increased from 89,1 in January 2010 to 100.1 in November 2010 while stocks of crude oil in PADD 2 (which includes the storage facilities in Cushing, Oklahoma) increased from 84,339 thousand barrels in January 2010 to 92,451 thousand barrels in November 2010.
So the FT is correct with its article about WTI. Furthermore, the refineries around Cushing and the Bakken oilfield can’t use all the oil supplied, so stocks are increasing and these increased stocks suppress the price of WTI.
On the other hand, Brent is a crude oil produced from oilfields in the North Sea. Actually, Brent is a mixture of several oilfields. As the North Sea is in decline, the supply of Brent is decreasing. Furthermore, the local European market is exposed to crude oil supply from Russia. As the Russians opened new pipelines to supply China, crude oil is diverted from Europe towards China, reducing supply to the European market.
As Brent is a tanker market, it is more exposed to the increasing crude oil demand from Asia, since Asia’s crude oil demand is increasing while US demand remains flat, which further added upward pressure on the price of Brent.
So I have to refine my earlier assessment. It may begin to matter what sort of market marker you buy. As I write these lines, I just increased my long positions in WTI. Why?
I am a firm believer of the one oil market world. The spread between WTI and Brent can’t continue to grow indefinitely. As I learned with the market for LNG, arbitrage occurs at some point of a regional price spread, diverting oil from one market to another.
Even if I think that the gap won’t increase much from where it is now, the opposite may happen, and this would clearly work in the favor of WTI.
