Explaining The WTI-Brent Spread Divergence

Something totally bizarre has happened in the last three years. Oil in America has become much, much cheaper than oil in Europe. Oil in America is now almost $30 cheaper than oil in Europe.

This graph is the elephant in the room:

3 year brent spread

And this graph shows how truly historic a move this has been:

brent-WTI-spread

Why?

The ostensible reason for this is oversupply in America. That’s right — American oil companies have supposedly been producing much, much more than they can sell:

This is hilarious if prices weren`t so damn high, but despite a robust export market for finished products, crude oil is backing up all the way to Cushing, Oklahoma, and is only going to get worse in 2013.

Now that Enterprise Products Partners LLP has let the cat out of the bag that less than a month after expanding the Seaway pipeline capacity to 400,000 barrels per day, The Jones Creek terminal has storage capacity of 2.6 million barrels, and it is basically maxed out in available storage.

But there’s something fishy about this explanation. I don’t know for sure about the underlying causality — and it is not impossible that the oil companies are acting incompetently — but are we really supposed to believe that today’s oil conglomerates in America are so bad at managing their supply chain that they will oversupply the market to such an extent that oil sells at a 25% discount on the price in Europe? Even at an expanded capacity, is it really so hard for oil producers to shut down the pipeline, and clear inventories until the price rises so that they are at least not haemorrhaging such a huge chunk of potential profit on every barrel of oil they are selling? I mean, that’s what corporations do (or at least, what they’re supposed to do) — they manage the supply chain to maximise profit.

To me, this huge disparity seems like funny business. What could possibly be making US oil producers behave so ridiculously, massively non-competitively?

The answer could be government intervention. Let’s not forget that the National Resource Defence Preparedness Order gives the President and the Department of Homeland Security the authority to:

(c)  be prepared, in the event of a potential threat to the security of the United States, to take actions necessary to ensure the availability of adequate resources and production capability, including services and critical technology, for national defense requirements;

(d)  improve the efficiency and responsiveness of the domestic industrial base to support national defense requirements; and

(e)  foster cooperation between the defense and commercial sectors for research and development and for acquisition of materials, services, components, and equipment to enhance industrial base efficiency and responsiveness.

And the ability to:

(e)  The Secretary of each resource department, when necessary, shall make the finding required under section 101(b) of the Act, 50 U.S.C. App. 2071(b).  This finding shall be submitted for the President’s approval through the Assistant to the President and National Security Advisor and the Assistant to the President for Homeland Security and Counterterrorism.  Upon such approval, the Secretary of the resource department that made the finding may use the authority of section 101(a) of the Act, 50 U.S.C. App. 2071(a), to control the general distribution of any material (including applicable services) in the civilian market.

My intuition is that it is possible that oil companies may have been advised (or ordered) under the NDRP (or under the 1950 Defense Production Act) to keep some slack in the supply chain in case of a war, or other national or global emergency. This would provide a capacity buffer in addition to the Strategic Petroleum Reserve.

If that’s the case, the question we need to ask is what does the US government know that other governments don’t? Is this just a prudent measure to reduce the danger of a resource or energy shock, or does the US government have some specific information of a specific threat?

The other possible explanation, of course, is ridiculous incompetence on the part of US oil producers. Which, I suppose, is almost believable in the wake of Deepwater Horizon…

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87 thoughts on “Explaining The WTI-Brent Spread Divergence

      • With the welfare system, there is no need for arbitrage any more!

        But good spot. I agree, in a free market, it would be exported. Who knows why managers don’t do it. There could be other reasons we have not thought about.

        • I’m all ears.

          By the way, here’s global oil production:

          While US oil output has certainly increased since 2008, so has global oil production. Therefore the spread between WTI and Brent cannot be explained solely through increased US oil output. Indeed, as US oil producers have brought more capacity online, the USA — the biggest global oil consumer — has decreased its reliance on non-US oil, a downward pressure on price for Brent.

      • How would you arbitraqe WTI & Brent crude? They are not the same asset traded in NY & London; they are different (composition, sulfur, density, etc.) feed stocks produced in different areas, bought by different refineries with different processing capability in different areas, and serving different customers with a different varieties of products. As mentioned above, transport and refining capacities play a part. I think I heard about “place utility” in high school — and oh– supply and demand, not of securities, but of real products.

        I know little of this part of the oil/gas industry, but can’t we assume that anything that can be arbitraged will be, resulting in price leveling? Ask an professional oil trader — working for a company that must dispose of or acquire mega barrels every day — or a futures trader (often the same guy) — how it works.

        • Did not know there was a difference but thanks for the clarification. I agree different chemical compositions would have an effect on whether different plants can process. I believe the USA uses low sulfur diesel? I don’t think that is mandated in Australia.

        • How would you arbitraqe WTI & Brent crude? They are not the same asset traded in NY & London; they are different (composition, sulfur, density, etc.)

          Yes, WTI is slightly sweeter, lower sulfur content, and that has generally been reflected in price previous to this weird reversal — WTI generally cost more. This is why it’s so bizarre, that the higher grade oil is trading for cheaper.

          I know little of this part of the oil/gas industry, but can’t we assume that anything that can be arbitraged will be, resulting in price leveling?

          This is what has traditionally happened in the market. It has only recently stopped — as my graphs show, there was once a very strong correlation between WTI and Brent. But it can’t happen if the Federal authorities are using the NDRP executive order to prevent that from happening, effectively to create an ad hoc second SPR in Cushing — near the centre of the US, away from any major metropolitan areas that might be targeted, etc.

          The NDRP executive order was authored last year. It is an update of the 1950 Defense Production Act. Why would the Obama administration go to all the trouble of issuing an executive order they aren’t going to be actively using?

        • Aziz, you are correct.

          Some of the other folks commenting here seem to be living in lala land.

          A couple of points-

          1: oil is a finite resource and wishful thinking nor fracking are going to change that.

          2: Do any of the ‘lala landers’ out there know how much oil the U.S. consumes in one day?- Answer-about 18 million barrels. So why are 400k barrels a day from WTI selling for so much less than the world price? Gov’t perception management is the reason.

          One might ask how much we are paying for the other 17+ million barrels a day we use. Look at the price of Brent and you will have your answer.

        • Robert —

          So you think the issue is more to do with government perception-management of the “oil price” than with the Obama administration’s geostrategic imperatives?

          I tend to think it is the latter, due to the content of the executive order that empowers the Department of Homeland Security to intervene…

        • Any reason for doing what they do is sufficient. I recommend reading shadowstats.com for a good read about using stats to manage perception.

        • So how did it affect the divergence that took off in 2011….?

          Most of the authorities under the 2012 NDRPO existed under the 1950 Defense Production Act (I mentioned this in the initial piece, as I was expecting someone to bring this up).

          Codifying or recodifying policy under a legal framework after those powers have been used, is standard practice for this administration. The Obama administration, after all, was carrying out signature drone strikes long before it codified that policy into a framework. That means that if the administration is going to issue a clarificational executive order in 2012, we should expect those powers to have been exercised earlier.

  1. I think what you analysis doesn’t take into account is that refining capacity hasn’t kept up to speed with oil production and that energy is not as free flowing as you seem to think. In Canada, oil production is increasing, but pipeline capacity is maxed out. Alberta would love to sell oil and gas to Asia, but it’s currently having to take a deep discount to WTI in the North American market. Thus, there’s an even bigger oil glut in Canada vs US than US vs Europe. Maybe Canada is gearing up for war too?

    • Western Canadian Select (WCS) is thick, heavy shit. That kind of stuff sells at a discount to light sweet crude all around the world. You build a pipeline to Xanadu and that isn’t going to change the grade of what’s coming out of Alberta. It will always be discounted compared to light sweet crude.

      Brent and WTI are close substitutes. There’s very little difference in quality, but the thing is that Brent generally has a slightly higher sulfur content, meaning that the discrepancy tends to be toward WTI costing slightly more, as my second graph shows. Until now. Why is the slightly lower grade oil trading at a slight premium when the oil companies could easily (at least in theory) slow the tap, clear out inventory and watch the prices converge.

      I haven’t heard any other explanation that’s even semi-convincing.

      • Unlike the “elites”, you, John, seem open minded, tolerant of other opinions, and willing to learn. So let’s look at at fact or two (with more above about arbitrage and more later to reply to impermanence).

        High sulfur (“sour”) crude is cheaper to buy but more expensive to refine. Different refineries buy different crudes, as close as possible matching feed stock to their facilities which are matched to customers’ requirements.

        “Slowing the tap” or opening it is the prerogative of various companies producing, buying, and storing crude; they try to maximize profits. When it gets to long-distance pipelines, common-carrier rules control whose oil gets moved, when, and at what price. [To those who know only anti-business propaganda, it's been a few years since transportation was controlled by John D. Rockefeller's railroad cronies]. Now please get this: transporting crude and most products is an extremely high-throughput-low storage-capacity activity, from each wellhead to and through each refinery to each distributor to each retailer. The urgency to recovery costs in the very capital-intensive oil & gas business usually dictates maximum production at whatever price prevails.

        • Thanks Don!

          I wrote a letter to our Anti Competition and Consumer Commission (Monopoly and Price Fixing Buster) and asked why price of fuel was consistently cheaper- 40-50 cpg) at a major town that was 100 km further from the refinery than my town. How does that compute!

          They said they need evidence of price fixing.

          I said, perhaps the ACCC needs to be abolished, as you guys can’t do your job!

        • Now please get this: transporting crude and most products is an extremely high-throughput-low storage-capacity activity, from each wellhead to and through each refinery to each distributor to each retailer. The urgency to recovery costs in the very capital-intensive oil & gas business usually dictates maximum production at whatever price prevails.

          Interesting… but don’t OPEC vary production (i.e. shut down capacity) to maximise price? Is the higher Brent price because OPEC do this and US producers don’t?

          Also the 400,000/bbl a day Sealine pipeline from Cushing to the Gulf is open… why hasn’t the spread closed? And why when it costs $3/bbl to ship by train or $5/bbl by road hasn’t the gap been closed that way?

          My instinct when massive dislocations occur in markets is to look to blame government intervention. I can easily envisage an arbitrage opportunity to open for a few months, but a $10+ spread for almost three years now?

        • CLARIFICATION: ” …. whose oil gets moved, when, and at what PRICE.” Should have written “..and at what FEE.”

    • Cushing’s (long-term) infrastructure issues do not explain the spread divergence. The transit cost by rail from Cushing to the Gulf is around $3/bbl. I can understand a spread opening for a few weeks or months as more rail or road capacity comes online, but 3 years?

      • My husband has been reporting this to me for quite a while now, but he sees an ordinary market bottleneck stemming from the still fairly new fracking revolution. The infrastructure hasn’t been there to export oil from the mid-West even to the rest of the U.S., let alone overseas. The rest of the U.S., especially the refineries on the West and East coasts, was used to importing Brent from overseas rather than transporting it overland from the mid-West. The pipeline between Cushing and Port Arthur (Gulf Coast) originally was supposed to go south to north, but the fracking revolution caused them to retrofit it to go the other way (something about valves, beyond my expertise). That’s only recently been fixed up. The refineries on the coast, in the meantime, are still set up to take the heavy sulfurous Venezuela crude, and they’re being slow to switch over. There’s a refinery now in the Beaumont/Port Arthur now being built or modified to take WTI.

        If he’s right, as soon as the mid-West suppliers get their export pathway ironed out, WTI prices will quickly equalize with Brent again.

        I can tell you that the shale boom in Texas is amazing right now. Only a few years ago, the area south of San Antonio was moribund. Now it’s boomtown.

        I’m sorry I have no links or authority for this handy. You’ve inspired me to go look it all up. I hope I haven’t gotten too many of my facts messed up, since I’m reporting from memory.

    • Here we go again — cartels are fixing oil prices! A plethora of politically-staged congressional oil company tar-and-feather TV shows haven’t come up with any findings or fixes. But — psst — come close and I’ll tell you in some shocking true stories!

      To punish Western oil consumers for pro-Israel sympathy and to make a lot more bucks, all Arab oil producers shut off oil deliveries in 1974+/-; crude and product prices multiplied and never came back down. US oil and natural gas prices have shot up from hurricanes in the Gulf of Mexico. The oil companies made the usual flimsy excuses about supply and demand!

      • I hear the same stories in Australia. The dollar is stronger, oil has come back, but pump prices do not change.

        The Australian Competition and Consumer needs to be abolished. It is a toothless tiger, and costs taxpayers anyway. (For the followers of my Political Party – The Australian Nationalist Party )

      • “Here we go again — cartels are fixing oil prices! A plethora of politically-staged congressional oil company tar-and-feather TV shows haven’t come up with any findings or fixes.”

        DG, nearly the entire purpose of the political system is interference in the markets. It’s not a matter of whether there are cartels or price fixing, but just how much.

        Obviously, there are costs that must come through when you look at the price of any commodity, but the real price of production [what the classical economists wanted to get as close to as was possible], is completely distorted by politics, cartels, financialisation, and any other method in which people try to get something for nothing.

        If a bbl. of oil is UDD95., do you know what the actual cost of producing that bbl. is and how much is complete non-sense? Of course you don’t, and this is what the brightest minds in the world do all day, that is, attempt to figure out how they can deceive people into thinking that what they are paying is ligit.

        Do you think that [fill in the blank medication] actually costs USD10./pill?

  2. Pingback: Explaining The WTI-Brent Spread Divergence | Fifth Estate

  3. The international spot market for oil is located in Rotterdam, The Netherlands. In the past, commercial distributors of oil, which include the international oil majors and private merchant firms as well as some very well-funded speculators, have been known to hoard oil in order to keep the price up. The forces behind this oil distribution cartel don’t want an oil glut. Further, oil in storage is worth many more times its cash equivalent, simply because it is real wealth. And selling that oil would generate taxable income within the United States which would mean higher taxes paid inside the United States. All the oil that the rest of the world can consume can be supplied from sources outside the United States, even with Iran restricted and much of Iraq still offline. It just makes more sense to bring oil to the market which is “tax-free”, than American oil, which is not only taxed at 35%, but which is also more expensive to extract and to transport.

    • That is why I say people should go long Bitumen.

      It is storeable and is required for sealing roads. It is a very long term commodity. Ric people will demand paved toll roads.

  4. http://video.ft.com/v/2148970755001/Impact-of-US-shale-boom

    Impact of US shale boomFeb 8 2013 The boom in shale oil production has boosted US oil production by 1.3m barrels a day in two years. Javier Blas, commodities editor, discusses with commodities correspondent Jack Farchy the impact this has on the price of oil and the US. (5m 2sec)

    The conventional story regarding the oil price shock in 1973, set by the OPEC cartel is fishy. It is obvious that Saudi and other Arab oil producers are ‘vassal states’. They have no control over their domestic oil production or prices. I was told many years ago by my Jewish primary school teacher in the UK, ‘the Arabs know nothing, they need us to get the stuff out of the ground’. So these oil price rises in the 1970s were probably required by the ruling elites in the west not something that OPEC did independently.

    • Martin Wolf is an influential guy…

      What he advises may well be tried. Article included one very interesting graph that may go some way to explain problems in Britain.

  5. Aziz- your comments are usually so spot on but this is a little too conspiratorial and in my view off the mark.

    One thing the US has going for it, like it or not, is unbridled opportunism. I should know. I am an investor in the Bakken (housing).

    What I have seen first hand is people who are struggling to make mortgage payments back home relocate and earn 70k/year USD working long hours in the oildfields with no secondary education. This is happening by the thousands.

    The same thing on a bigger scale is happening with small oil producers (who have since been absorbed by mid cap companies). They see the basic development opportunity of investment and returns and take the Plunge – execute their plans, acquire more properties and so on. Companies like BEXP and so on started acre by acre and are now owned by statoil and the like.

    What I am getting at is this is a “bottom up” story. Not a top down one. This resource is being exploited by entrepreneurs who are not constrained by mobility and in a state with very liberal, open mineral rights. It’s guys like me who see an opportunity, invest and exploit for profit. Wild West stuff. It’s what has built this country.

    (It’s definitively not a government conspiracy. You give the government far too much credit. )

    Anyway the sum of all this bottom ip activity has created a supply glut — even at the local level. If you investigate the local oil market pricing dynamics you will see that Bakken crude sells for less than crudes produced close to refineries (ie Permian basin, eagle ford, texas). Why? takeaway costs. It’s basic economics. (And now new pipelines are underway which will reduce these differentials and a new set of businesses and entrepreneurs will profit here too. More bottom up business).

    Aggregate this supply glut, add in the same techniques from the bakken used in texas and you see a WTI Bakken differential. You in fact see a reversal of the decline in US oil production. Amazing.

    Again it’s a bottom up story of pure Americanism : personal mobility, light regulation, free flowing investment capital, entrepeurship, and so forth. If there is a dollar to be made people will figure out a way. Pure and simple. (Government has zero to do with it – in fact they have been an impediment in many cases).

    There are many things about the US governemnt that I look at with serious skepticism but this is the one thing that is efficient, pure, capitalism, with low regulation etc and which we are now seeing may be a rare american phenomenon.

    • Aziz- your comments are usually so spot on but this is a little too conspiratorial and in my view off the mark.

      What do you mean by “conspiratorial”? Stockpiling oil is no conspiracy. If I knew there was a severe danger of a war, I’d say that advising domestic oil producers to stockpile oil is probably a prudent thing to do.

      What I am getting at is this is a “bottom up” story. Not a top down one. This resource is being exploited by entrepreneurs who are not constrained by mobility and in a state with very liberal, open mineral rights. It’s guys like me who see an opportunity, invest and exploit for profit. Wild West stuff. It’s what has built this country.

      And why in the Wild West would the producers of oil be producing and hoarding such vast quantities in one part of the country that they end up taking up to a 25% loss ($20+) on what the oil is worth at the coast, even when the cost of transporting the stuff to the coast is something like $3?

      It’s basic economics. (And now new pipelines are underway which will reduce these differentials and a new set of businesses and entrepreneurs will profit here too. More bottom up business).

      Seaway is open now, spread is still massive (even though Brent still has a slightly higher sulfur content).

      Again it’s a bottom up story of pure Americanism : personal mobility, light regulation, free flowing investment capital, entrepeurship, and so forth. If there is a dollar to be made people will figure out a way. Pure and simple.

      Then why are we getting the opposite effect? Rather than prices converging as more and more entrepreneurs eat the arbitrage opportunity as you would expect in an open market, the spread is still (relatively) massive… Is the market really that inefficient?

      • Aziz et al…

        I can only reply to a few items… before I do so I dont want anyone to get lost in the weeds — again my main point (and I am 100% sure I am right here having lived this business for the past few years) is that the WTI – Brent differential has to do with the massive growth in US shale oil production and the fact that there are little to no exports of this WTI to the world market. Key facts:
        (1) US Oil production is the highest in 14 years:

        http://www.eia.gov/todayinenergy/detail.cfm?id=6610

        (2) Shale oil extraction has been the major source of this supply growth

        http://www.econbrowser.com/archives/2012/12/future_producti.html

        (3) Oil Export Ban:

        http://www.reuters.com/article/2012/11/07/us-usa-oil-export-policy-idUSBRE8A62KS20121107

        (4) US Domestic Oil consumption down…

        http://www.eia.gov/dnav/pet/pet_cons_psup_dc_nus_mbbl_a.htm

        My bet: WTI keeps its spread vs brent. It will follow the marginal cost of production for shale oil…

        As for responses to Aziz’s responses…

        1-Conspiracy. The conspiracy term was my interpretation of where you were taking this shale oil story. I may be mistaken but from what I read, you implied that the US Government and its Defense needs, resource independence etc had some role to play in the global economics of Energy pricing. Terms like “Fishy” “Funny Business” “Government Intervention” Led me to this conclusion.

        2- I am not sure if I understand your second point on Hoarding oil in the West to lost $20/bbl. Frankly I am no expert in local pricing. I do know the major bakken producers are profitable however. EOG, BEXP, and CLR are examples. All making money — but less so (as I see WTI converging with marginal cost of production) . Also its rail which is the primary takeaway for bakken crude which is inexpensive. Finally the shale oil is of very high quality. Its extremely light/sweet and is of very high value however there are bottlenecks as many refineries have converted to heavier crude formats for the past 20 years.

        3-More on profitability. No doubt extraction costs per well for bakken are very high and depending on who produces it and the efficiencies they get, profitabilty is only attained with oil prices ranging from $70+/- to about $85 +/- as far as I understand. (Google breakeven production bakken crude There are varying assessments from companies, investment banks and the like. )

        Anyway — bakken oil is profitable at current 2013 pricing levels. Some facts from 2011 from ND dept of resources.

        This kind of stuff (Below) is the bottom up I am talking about. The town of Williston has doubled in population over the past few years — its not from government incentives but from the economic impacts of energy:.

        Some stats from ND Dept of resources:
        – Bakken wells will last 29 years
        – over those 29 years the average 2011 Bakken well will: Produce approximately 540,000 barrels of oil
        – Generate over $20 million net profit
        – Pay approximately $4,585,000 in taxes $2,200,000 gross production taxes $2,000,000 extraction tax $385,000 sales tax
        – Pay royalties of $7,500,000 to mineral owners Pay salaries and wages of $2,100,000
        – Pay operating expenses of $2,300,000
        – Cost $7,925,000 to drill and complete
        Link:

        https://www.dmr.nd.gov/oilgas/presentations/WBPC2011Activity.pdf

        back to work.. thanks for lively discussion gents

        • I may be mistaken but from what I read, you implied that the US Government and its Defense needs, resource independence etc had some role to play in the global economics of Energy pricing

          The US government and its defence needs have had some role to play in the global economics of energy pricing for a very long time. That’s why the US has so many foreign military bases in the middle east. That’s (proximately) why the US went to war with Saddam’s Iraq twice. That’s why there exists a thing called Petrodollar Warfare. But to be more specific, yes, I was speculating that a recent executive order may have been used to build up a bigger domestic stockpile of oil, beyond that which is already mandated by the SPR (and implicitly through the export ban). I wouldn’t call that a conspiracy. I’d call that an energy policy.

          Anyway — bakken oil is profitable at current 2013 pricing levels.

          Yes, even at WTI prices they’re profitable — but nowhere near as profitable as they could be if they were being sold on the Gulf coast. Louisiana Light Sweet — which is a similar grade to WTI — is nearly converged with Brent. Yet the producers of Texas and ND continue to take a massive haircut. To me — especially given the geological realities and attendant costs of shale production — this is beyond puzzling.

          Yes, the shale revolution is mostly “bottom up”. What I’m trying to get to the bottom of is why it isn’t much more profitable given the price differentials. Could it really be the export ban? The US is still importing masses of Brent. Why are producers happy to pay global cost levels (Brent) when US oil is available cheaper? Sure, some will say that the answer to that is convenience and reliability — that the US domestic oil base lacks refining capacity and has transport issues. Yes, US refining capacity is geared toward sour crude, rather than the sweeter grades coming via the shale, Bakken formation, etc. But it’s been three years since the spread emerged. Seaway is open. And we still have the spread. Meanwhile, Cushing’s storage capacity is increasing vastly to such an extent Cushing is beginning to look like another SPR. Inventories are double what they were last year. Even if this is an accident, the US is in a relatively rosy position if MENA or SE Asia end up at war, and there are trade issues, e.g. Suez, Strait of Hormuz, South China Sea. I suspect the executive order last year had something to do with it. But maybe I am wrong….

        • Australia is experiencing a fracking boom too, but is being held back by different land ownership versus mineral ownership rules to the USA (If you own the land you don’t own the minerals. The Crown does).

          The surge is US energy production is why I am long on a US resurgence. Production will move back to the USA.

          Thanks for the detailed explanation.

    • I agree with Andre h that this isn’t any government conspiracy or the like. Putting DHS or any defense related plan on the button is just laughable. Don’t turn into one of those nuts, John. The world is already awash with them.

      Sure, oil cartel nations might turn on and off the supply, because they can. They are soverign nations responding to many needs and impulses, while companies are responding to cash flow and other balance sheet concerns. Might they make a bit more tomorrow by holding back today? Sure. But they are getting while the getting is good in an uncertain world. And at almost $100 per bbl, they are taking profits.

      Still, there is a clear price spread, which is explained by transport constrictions. And if you think this can be cleared “in a few months”, you’ve not been paying attention. Pipelines, railways and shipping take years and years to expand or free from other contracts. This isn’t a single variant world.

      As a further note, John, the spread is closer to $20 than $30. All the data can be found here: http://www.eia.gov/dnav/pet/pet_pri_spt_s1_d.htm.

      • T>S,

        I agree with Andre h that this isn’t any government conspiracy or the like. Putting DHS or any defense related plan on the button is just laughable. Don’t turn into one of those nuts, John. The world is already awash with them.

        I don’t understand. What kind of government conspiracy are you talking about? I am not talking about any kind of conspiracy. I’m simply referring to a 2012 Obama executive order, and speculating about its current use to explain a weird market discrepancy. Yes, governments sometimes manipulate markets clandestinely on issues relating to national security. That is not a “conspiracy” — it’s an energy policy. There is a publicly available executive order relating to this specific kind of activity. Read the executive order.

        Still, there is a clear price spread, which is explained by transport constrictions. And if you think this can be cleared “in a few months”, you’ve not been paying attention. Pipelines, railways and shipping take years and years to expand or free from other contracts. This isn’t a single variant world.

        It’s not explained by transport constrictions, simply because transport costs at current values from Cushing to the Gulf don’t equal — or even come close to — the spread.

        I can understand this kind of disparity over three months or six months or even a year. But three years? In a free and open market, it would eaten away by arbitrage, or managed away by reducing production. As I say in the piece, either there is some funny business going on, or we’re dealing with a continued and prevalent incompetence by the petroleum sector, an industry that is generally not known for its incompetence.

        Even though it’s true that they are still making a significant profit at current WTI prices, why would they turn their nose up at $20-30 extra profit? The biggest spread that can be explained sufficiently is the cost of moving petroleum from Cushing to the Gulf. Anything else is fishy and weird, especially over such a sustained period of time.

        • Well said Aziz.

          In my opinion, the exec order is only an excuse to do what they are doing. I have been looking at this entire resource predicament since about 2006 and have also noticed this disparity develop between the two markets. In that WTI serves a miniscule market (400k/day) compared to U.S. consumption (18million/day) or worldwide consumption (85+million/day), I can only conclude that WTI is manipulated for the sake of perception of the electorate. Try to imagine WTI being the same price as Brent. The MSM would be all over it. As it is now, the pols can still state (to the believing uninformed) that the price of oil is still under $100.

          One might ask about the disparity between the price of diesel and regular gas (didn’t used to be so). The higher price of diesel can be stealthily passed off to the consumer in the form of higher retail prices for goods and services. But who can the consumer (read U.S. citizen) point the finger at? I would guess that the majority do not think of higher fuel prices as one of the main reasons for the higher cost of their purchases. Conversely, raise the price of gas and that would cause an uproar.

          No matter what we may like to wish, we need to understand that the cheap/easy oil of the last century is a thing of the past.

          Also need to understand that the folks in power in D.C. will do whatever it takes to support the status quo, no matter how unsustainable. That which is unacceptable to the electorate (the majority of which don’t even want to think about what we are discussing here) is also unacceptable to the politicians. So, just about anything goes in order to keep up the facade. Including fudged gov’t figures and market manipulations.

          Our gov’t is already spending more than a trillion a year (we don’t have) in maintenance fees. If everything is so great why is this necessary?

    • For all the unbridled optimists out there thinking we can continue on the same unsustainable course I recommend reading ‘Crash Course’. Or visit the Oil Drum website. Time to take the right colored pill. There is reason for optimism but only if we change course…and rather drastically. Unfortunately, I don’t see that happening on a national level. As a nation we are too invested in maintaining the status quo or the illusion thereof.

      • Diesel in Australia is more expensive than Gasoline. Never used to be the case. Could it be the demand from diesel SUV’s. Commuter cars were never diesel?

        But we found out the hard way when a Victorian State plant breakdown caused a massive supply bottleneck, and fuel stations ran out or had to ration diesel. Eventually it came back on line, but was a fragile weak point in Australian logistics and fuel security.

  6. Amen, brother! You can speak up with more confidence — Obama’s administration and some state governments* are indeed impediments to producing from private lands (unjustified anti-fracking laws and regulation) and are outright opponents of production from federal lands/waters and pipelines. Love your “bottom-up” vs. “top-down” characterization!

    * LOCAL governments, sensitive to real environmental concerns such as fresh water and to private and community economic benefits, invariably take practical and just action.

      • And another Amen to Truth>Spin! John, if Andre & Truth haven’t/don’t answer your questions, I’ll try again. Price = f(supply, demand), isn’t it.

        • Typos: just above, the last two words should be “doesn’t it.?”. Much earlier, I wrote that LNG is “DEgasified at receiving terminals; I meant “REgasified”.

        • “Price = f(supply, demand), isn’t it?”

          It is if you live at Disneyland. There you can buy a 20 cent soda for eight bucks!

          In the real world, supply/demand only gives you a starting point where all the other interests come in…government, corporations, special interests, so on and so forth. Therefore, final price can have little to do with supply/demand.

          A perfect example would be health care in the U.S. where there are many doctors sitting around doing little [despite the propaganda otherwise] and useful drugs sitting in containers that could actually help people, but because well over a hundred million people have little to no access to care [cost is too high], they can not afford care/drugs.

          This is going on EVERYWHERE in the economy, some areas worse than others, but, again, the key to the cartels and interests is in hiding the true costs of bringing a commodity/service to market.

        • In the real world, supply/demand only gives you a starting point where all the other interests come in…government, corporations, special interests, so on and so forth. Therefore, final price can have little to do with supply/demand.

          Excellent….

  7. Please stop, its painful to read.
    WTI pricing under Brent started due to logistics constraints in Cushing, oil literally could not get out of the region, which is the US pricing location, and started to fill up all available tank capacity.
    Crude exports are also banned under US law so even with Seaway reversing the disparity is not guaranteed to resolve.
    If something looks too absurd to be true, if it looks like anyone should be able to make a fortune in simple arbitrage, maybe something else is going on that is not readily apparent….think before you write. You make yourself a fool by relying on “your intuition”

    • WTI pricing under Brent started due to logistics constraints in Cushing, oil literally could not get out of the region, which is the US pricing location, and started to fill up all available tank capacity.

      I think you should read through the comments section, I have answered the points you raised, as others have also raised them.

      The interesting thing about Cushing is that even more oil is going there, even since the divergence started and started to grow bigger. It’s double what it was this time last year, and oil firms are building more. Are the oil companies stupid? Are the companies that are fracking in TX and ND and pulling oil out of the ground for $70/bbl really so stupid as to keep sending their sweet low-sulphur oil to Cushing where it sells for $95 when for literally $3/bbl more even at current freight capacities they can send it to the Gulf and increase their profit margin 50% or more? Is the oil industry in general in the United States so stupid as to accidentally overproduce and oversupply to the extent that it has done? Or are certain oil companies (not necessarily the whole oil industry) acting on advice or orders of the DHS and Feds and building up a (second) strategic reserve?

      Crude exports are also banned under US law so even with Seaway reversing the disparity is not guaranteed to resolve

      Big deal, the US is still importing more than it produces. WTI is a drop in an ocean of imported Brent. Brent is still a slightly sourer grade. So what gives? It’s been going this way for three years. I could understand it if the spread between Brent and WTI was the difference between transporting a barrel from Cushing to the Gulf. Right now that’s $3/bbl.

      But the bottom line is that producers should be scaling production and output to a level where WTI and Brent converge. That’s what happens in a free market. The fact that that hasn’t happened leads me to a lot of questions.

      Sometimes, you need to look at things from a more geostrategic perspective. Countries have national defence policies, energy security, resource security. If a market is seriously distorted, there is likely to be a geostrategic or interventional cause.

      You make yourself a fool by relying on “your intuition”

      To say that I am relying on my intuition is totally inaccurate. True, intuition is where speculation originates from, but I exhaustively researched this before I posted. The fact remains that nobody has truly explained the size and persistence of the divergence. This means that the possibility of government involvement is very real. And the existence and timing of the executive order does little to dampen the speculation.

  8. Saudi Arabia and others in the Middleeast have to keep the prices high to pay the young people that are unemployed in their countries. Oil prices are high because of these programs to keep the crowds from uprising and over throwing the Royals !

  9. This is a ridiculous blog post that shows a lack of understanding of how the oil industry works. I work in the industry so let me clear some things up:

    The reason WTI is so low is because the oil majors don’t control North American production like they used to. Bakken, Eagle Ford, Western Canada is becoming increasingly dominated by small-cap producers, geological and drlling experts who form their own companies, raise equity capital, and start drilling new wells. The cost of drilling and wellhead prices are all that matter to them. Marginal production is no longer controlled by “big oil.”

    Why is WTI so low despite Seaway opening? Because Seaway is pumping way below its nameplate capacity and Cushing still isn’t drawing yet. Therefore, the price of crude in Cushing is still being set by padd 2 refiners, who otherwise can take barrels from Canada, or West Texas, or other midcontinent shale plays as opposed to buying it from Cushing. Eventually this should change but between now and April the spread won’t converge. Even next year WTI will still be $7-10 below Brent due to market logistics.

    • The reason WTI is so low is because the oil majors don’t control North American production like they used to. Bakken, Eagle Ford, Western Canada is becoming increasingly dominated by small-cap producers, geological and drlling experts who form their own companies, raise equity capital, and start drilling new wells.

      If you’re correct, then it would fall under the “gross incompetence” possibility I noted in the post. If this is really the underlying cause, it is very surprising and eyebrow-raising that there hasn’t been a pullback from pumping, or a greater effort to arbitrage away the spread. The small-time producers are losing a lot of potential margin. It’s been a long time at this level. This is supposed to be a free and open market, and ultimately there is really very little ostensible reason for the spread to be much above the cost of transport to the Gulf, however you spin it. US is still importing huge amounts of more-costly Brent, too. I am still leaning toward the possibility of government intervention, especially considering the content of the executive order, and the range of geopolitical dangers.

      • Edmonton par is light crude and sells at a $10 discount to WTI.

        John, simple explanation, commodities are priced at the margin. Until 2011 US oil production was declining faster than North Sea production making the marginal barrel more expensive in the US. This trend has reversed in 2011 and the price differential reversed too.

        • But the WTI-Edmonton Par spread is roughly equivalent to the transfer costs of getting a barrel of Edmonton Par to Cushing, no? Yes, the Canadian prices are down too. Is that proof that the US companies are acting incompetently? Not necessarily. Maybe the trend applies to the entirety of the North American petroleum infrastructure (which is linked together geographically and physically) — if some US producers are overproducing for political reasons, that is going to impact Canadian prices. If Cushing is overstocked, that will hurt prices in Edmonton, Alberta, etc, by definition. I accept that the trend has changed. The question really is why the trend has changed in such an extreme and bizarre way over such a long period.

        • Does it cost $10 a bbl to transport crude from Edmonton to Cushing? I have been reading that rail transport adds about $5 to the cost of production, so that could explain some of the discount. The Edmonton Par discount had been widening vs. WTI but mostly due to pipeline capacity.

          There had been a rumour for years in Canada of an agreement between former PM Mulroney and former President Reagan about a secret deal to bankrupt the USSR. Canada was to dumb to dump its gold on the world market, Saudi Arabia was to increase oil production and the US was to goad the USSR into a spending war in arms. The USSRs two major export products were oil and gold. I believe the idea in driving down WTI and US oil production is to cut US imports and weaken Islamic states especially Iran.

      • Aziz,
        There has been TREMENDOUS effort to arbitrage the spread. Pipelines are hard to build due to political difficulties, however it’s happening in the rail/barge sector. Railcar orders are at all time highs….tons of leading facilities are being built in North Dakota, Canada, US East Coast, and US West Coast. However, rail can only transport so much and the producers are still making more than can be transported. We really need more pipelines, and they need to get to the East and West coast. The Gulf Coast is already well supplied and will soon trade at a discount to the rest of the world due to the coming glut. LLS will detach from Brent and link to WTI soon. We need more pipeline infrastructure and Jones Act waivers to truly converge WTI and Brent.
        Your assertion of some sort of governmental conspiracy to keep WTI depressed is way off though. I can’t believe zerohedge published this.

        • Oh, and as for why nobody has just railed it from Cushing to the Gulf Coast for $3/bbl, it’s because everyone anticipated that Conoco would eventually let Seaway be reversed, making a rail project a terrible investment. Cushing has no rail takeaway to begin with. That’s why it’s taken so long. No sane structured finance executive would invest in such a project knowing that a pipeline would soon make it obselete.

        • Your assertion of some sort of governmental conspiracy to keep WTI depressed is way off though.

          I don’t understand why people are accusing me of saying that there is some kind of “government conspiracy”. I am not saying there is some kind of government conspiracy. I am saying the Federal government has a domestic energy security policy (beyond the SPR). That is not a conspiracy — it’s readily and openly asserted in the NDRP executive order.

          I am not denying that there have been efforts by all manner of groups to arbitrage the spread. But with inventories in Cushing double what they were last year, these have been pretty futile, which is my point. Cushing is looking more and more look an ad hoc addition to the SPR…

  10. When you see the kind of non-sense that has been going on in the Middle East over the past couple of decades, one might suspect that the oil markets are highly controlled. Imagine all the people paid-off to this end. Is there anybody in a position of power in this world not on the take, one way or another?

    Obscene profits are wonderful for all of the players involved, individuals, corporations, and governments, especially since the most powerful players are much more concerned with financialization. Over-charging is simply another economic tax. The results of this fraud has been the further destruction of the real economy.

    This is similar to all of the cartels in place, e.g., pharmaceuticals, higher education, insurance, banking, real estate, so on and so forth. Each of these cartels secure higher pricing through interference in markets [mostly legislative], again removing productive capital from the economy [decreasing savings] and deepening the depression.

    • BTW, Imp — I forgot to ask, WHAT/WHOSE obscene profits? Oil companies’ financials are public and don’t show outsize profits — look at P/Es. While, in most cases, their territories were given to them by WW1 Britain and their oil development paid for by Western companies, the oil Kings and Sheiks (OPEC) charge “what the market will bear”; but that price is set by replacement cost/competition, hardly “obscene” in the history of human commerce.

  11. Dr. Imp: Generalities or at least broad-brush, shotgun allegations. We are beginning to get knowledgeable posts about oil. [I have, I think, helped understanding of exploration, drilling and production, but I am not experienced in macroeconomics of transportation, refining, etc.].

    You may be quite knowledgeable about pharmaceuticals, medical equipment, etc. Why don’t you pin the manipulation tail on those donkeys?

    • In an economy that is centrally controlled and debt-defined, it really doesn’t matter whether its oil, pharmaceuticals, or [fill in the blank] . I don’t have to know anything about oil to know what controls its pricing outside of supply/demand/production costs.

      If you want to argue over whether should be USD95.50 of UDS94.50, knock yourself out, but I am more concerned over why oil should be USD95.50 instead of USD35.50 or whatever it should be.

      You live in world where economic dynamics have been tremendously altered through massive market intervention by cartels [by and through governments]. It would be like a bunch of doctors standing over a patient who has an abdominal metastatic tumor the size of a beach ball and spending all the consultation time discussing his in-grown toenail.

      • Imp of Feb14 @ 16:19:22: As I believe you mentioned earlier, if ALL the added costs and skimmed profit from cartels, government, etc. were eliminated, we wouldn’t know what the true price of a barrel of oil would be. But if the world wants to match the decline in old/cheap conventional oil and meet increasing demand, you can bet your license to practice medicine that it would still be a LOT closer to $95.50 than $35.50!

  12. Well it seems to be a question of logistics and the reality of environmental/political roadblocks preventing arbitrage.

    If all these wild cat wells are flowing, they will most likely use road transport. Is road transport up? What about oil tanker trailer manufacture?

    In a truly free market pipelines, the most efficient method would be built, but the usual regulatory hurdles exist.

    I am hoping this post has attracted many more experts than the usual contributors. Group think works best when the group is a crowd.

    • “Group think works best when the group is a crowd.”

      NO! NO! NO! NO! NO! Group think is pure EVIL. The group destroys individual creativity and renders a result that benefits only those who control the group.

      Other than the above, I don’t have any opinions on the subject.

        • Without Group think we would not have got the different opinions we had. Now I am thinking there is no executive order, just the reality of shifting supplier paradigm.

        • I bet Buddy’s “group think” means what we used to call “brainstorming” — a plurality of INDEPENDENT thinkers tossing around new ideas. Such a process EXPANDS alternatives, whereas the opposite (“group think”, orthodoxy, Orwellian/Marxist/Nazi/Obama’s thought-police) suppress and punish ideas.

        • Don is correct:

          I bet Buddy’s “group think” means what we used to call “brainstorming” — a plurality of INDEPENDENT thinkers tossing around new ideas. Such a process EXPANDS alternatives, whereas the opposite (“group think”, orthodoxy, Orwellian/Marxist/Nazi/Obama’s thought-police) suppress and punish ideas.

  13. The biggest reason for the price difference is that it’s against the law to export crude oil from the U.S. As supply of U.S. oil has skyrocketed, price has gone down. Simple supply and demand. IF we could export WTI, prices would be similar.

    • The reason why I doubt this is the reason is that the US is still importing Brent oil at a higher cost. In a free and open market, it would be expected that the cheaper domestic oil (which lest we forget is a slightly higher grade) would be bought up to parity with the foreign oil, simply on a cost basis. But inventories are growing at such a pace that this just isn’t happening, and producers are losing a lotta money for it.

  14. no one mentioned our favourite central banker in the world :)

    My intuition is that it is possible that oil companies may have been advised (or ordered) (…) to keep some slack in the supply chain in case of a war, or other national or global emergency.

    everyone knows increased price-inflation on Main Street starts with oil. perhaps that was one of tricks used by central planners to break inflation transmission mechanism in the eve of monetary easing on unprecedented scale. that’s what governments do anyway – pump up house prices and stiffle energy prices. especially when printing money like crazy. spread comes from increased supply required to “control” inflation.

    another explanation would be Cantillon Effect taking place in Europe due to Fed’s USD swaps.

    something tells me all 3 explanation are in play…

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  16. I will tell you this much. We will have WTI prices above $150 a barrel by June/July of this year. It could go as high as $200 a barrel…. of course every expert in the oil industry I have talked to says oil is unsustainable about 100.

    Keep in mind that this doesn’t mean it can’t go to way overvalued for short periods of time, like it did in 2008. The hedge funds, institutionals, and other smart money are piling into every little oil company in and around the Bakken from ND, Montana, to Canada. Canadian Pension Fund invested heavily into Halcon Resources according to their latest 13F.

    Expect an oil party in the next 5-6 months.

    P.S. It is looking like the best time to strike Iran from an Israeli perspective is in mid-late April; meteorologically, agriculturally, and strategically speaking. This event mixed with unsterilized money printing will push oil back to astronomical levels, there will be an ensuing crash in equity prices once again and the golds will follow oil higher as the inflation fear becomes a mainstream worry again.

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