Brent has gathered some momentum while WTI prices have shown just a little bit of hesitation.
The difference in the price movements of the two oil benchmarks reflects a slight divergence in fundamentals between the U.S. and the rest of the world. U.S. shale continues to grow at a brisk rate, with production at 12.1 million barrels per day (mb/d), up nearly 600,000 bpd from October levels. The EIA recently revised up its forecast for U.S. production to 12.4 mb/d this year, up from the previous 12.1 mb/d it had expected for 2019.
Many U.S. shale companies are showing signs of weakness, struggling to turn a profit and cutting spending in the face of investor pressure. But production growth continues, much of it increasingly led by the oil majors. In the EIA’s most recent Drilling Productivity Report, the agency expects the major U.S. shale basins to add 84,000 bpd in March.
To be sure, there is a lag between major price movements and the knock on effects on rig counts, drilling activity and ultimately production. So, it could be the case that output growth slows as the year wears on. The rig count has already plateaued; a slowdown in production is entirely possible in the weeks and months ahead.
But so far the production numbers continue to surprise, weighing down the oil market. Just this week, the EIA reported a surprise jump in crude oil inventories by 7 million barrels. Part of that was an anomaly due to a rebound in imports after falling the previous week. However, production continues to climb. Meanwhile, the OPEC+ cuts are tightening up oil market conditions around the world. The group has taken more than 1.2 mb/d offline, and Saudi Arabia is going further, aiming to lower its output to 9.8 mb/d by this month, or 0.5 mb/d below its required ceiling.
As a result, the market is well-supplied in the U.S, but tighter elsewhere. This has translated into a price gap between Brent and WTI that has widened to $10 per barrel, up from a $6 to $8 range in January. The divergence in market conditions has also revealed itself in some bizarre trading movements.
Bloomberg reported in February that a series of supertankers are shipping oil from the U.S. to Asia, but then returning empty, carrying nothing but seawater for stability. The shippers are taking a huge financial hit by not bringing oil from the Middle East back to the U.S., for example, but supply conditions for that route are tight, while there are tons of barrels that need to head from the U.S. to Asia. And those barrels are priced at the lower WTI benchmark, so there is a bit of arbitrage going on, with cheaper U.S. oil heading east.
“What’s driving this is a U.S. oil market that’s looking relatively bearish with domestic production estimates trending higher, and persistent crude oil builds we have seen for the last few weeks,” Warren Patterson, head of commodities strategy at ING Bank NV in Amsterdam, told Bloomberg in February. “At the same time, OPEC cuts are supporting international grades like Brent, creating an export incentive.”
Unplanned outages in Iran and Venezuela are magnifying this trend. “Brent is continuing to profit from the OPEC+ production cuts and the involuntary supply outages in Venezuela and Iran. An unexpectedly pronounced rise in US crude oil stocks also failed to put any noticeable pressure on the price,” Commerzbank wrote in a March 7 note. “In fact, Brent even climbed to over $66 per barrel again overnight. WTI is lagging somewhat behind, widening the price gap to just shy of $10 per barrel again.”
Notably, the price differential between WTI in Cushing and prices in Midland, Texas at the heart of the Permian has just about disappeared entirely. Last year, Permian prices traded at a $20-per-barrel discount at its widest point, due to pipeline constraints. But the discount recently fell to zero, “thanks to the addition of the Sunrise pipeline in November 2018 and the announced conversion of the Seminole natural gas liquids pipeline to carry crude by the end of February 2019,” according to the Dallas Fed.
Higher volumes of U.S. oil exports will also smooth out the differences between WTI and Brent. More export capacity is planned for the coast of Texas. But that will take time. In the interim, surging U.S. shale production at a time when OPEC+ is keeping supply off of the market, has widened the prices between the two oil benchmarks.
By Nick Cunningham of Oilprice.com