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Brent and West Texas price differentials finally begin to narrow

Brent and West Texas price differentials finally begin to narrow

North Sea Brent and West Texas Intermediate (WTI) are very similar in API density and composition. The two crude oil streams are virtually interchangeable and should theoretically trade at the same price. Historically (prior to 2011), Brent has traditionally traded for slightly less than WTI. This difference was associated to the cost of transport.

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Since the US is world's largest oil consumer, US refineries have traditionally preferred the local WTI supply produced in North America, resulting in a modest premium for WTI. Since Brent is transported by ship (which is more expensive than pipeline transport), Brent has historically traded at a slight discount (on average about $2/barrel), accounting for the higher cost of transport by sea.

However, the tides turned in 2011 when the US shale boom dramatically increased domestic supply. Since oil produced in the US (including WTI) cannot be exported, domestic oil producers have been struggling to find domestic customers for their ever-growing supply of crude oil. WTI therefore began to trade at a discount since supply exceeded demand. This difference hit a record of over $26/barrel in August 2011, when Brent was trading for almost $115/barrel versus only $89/barrel of WTI.

Although the world oil supply is growing, it is growing in locations which are geopolitically volatile (such as Iraq) or landlocked (such as Canada and the US). Therefore, Brent crude has recently become the more valuable commodity in the past few years. Consumers in Asia (where oil demand is growing) cannot purchase North American crude, despite the excess supply. This depresses North American crude prices, including WTI.

Interestingly, this differential between Brent world oil prices and domestic WTI has recently begun to narrow, currently under $5/barrel. Although both Brent and WTI prices have been falling, Brent has been dropping faster due to an excess supply of international oil. However, when the supply/demand curves begin to normalize, the two streams of crude should return to trading at equivalent prices.

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