Crude Oil Spread: Brent vs. WTI


The latest decline in crude oil drove the price of WTI down to 32.075 USD/bbl and Brent down to 32.12 USD/bbl - levels we last saw in 2003/2004.

It is striking that the spread of Brent and WTI is further declining. After Brent was trading at a premium over WTI since 2010, this tendency seems to be reverting. Although both products are of high grade, WTI has the slightly better quality. A premium of WTI over Brent would therefore be rather normal, which was the case from the late 80s until 2010 (with only few exceptions - see chart). The appreciation of Brent relative to WTI was driven by geopolitical reasons. Brent is considered the more important benchmark for international crude oil transactions as nearly 2/3 of all transactions are based on the price of Brent. That is why Brent responded more sensitive to the on goings in the Middle East. With the outbreak of the Arab Spring, the Libyan-crisis and at the peak of the Iranian nuclear-crisis, the premium of Brent over WTI reached a record of up to $23.56. This was driven by the fear of a supply-shortage due to possible closures of the Suez Canal and the Strait of Hormuz. Furthermore, different phases of the Keystone XL pipeline project and increased production through fracking caused an oversupply of crude as inventories in Cushing, Oklahoma rose. After the completion of the pipeline in 2014 and not occurred supply shortages, the premium of Brent over WTI declined again. However, the risks in the Middle East are not banned. Due to the recent escalations between Saudi Arabia and Iran and a possible spillover to other countries of the region, fears of a closure of the Strait of Hormuz could rise again.

The strategy to use to benefit from a changing Brent/WTI spread is a so-called spread trade. You can implement this strategy with a long/short position. You go long one type of crude oil and short the other at the same time. The advantage is that due to the high correlation between Brent and WTI (0.936 on a daily basis during the last 12 months) in principle it does not matter whether crude oil increases or if it falls.

If you expect the premium of Brent over WTI to stay constant or to increase again, you can implement the strategy with a Brent Long/ WTI Short position. Using our undated commodity contracts, you would currently be receiving 2.1 USc/bbl overnight funding.

If you expect WTI to trade at a premium over Brent again you would be looking for a Brent Short/WTI Long position.

Brent/WTI Spread - Source: Bloomberg
Brent/WTI Spread - Source: Bloomberg

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