Are the world’s governments, policymakers and economic forecasters getting the wrong signals on oil markets because of distortions inherent in the benchmark, WTI? It’s been said for weeks that WTI may not be the best indicator of crude oil supply and demand, and now the International Energy Agency, which represents western oil-consuming countries, has confirmed it thinks so too.
The problem? WTI typically trades at a higher price than other benchmarks such as Brent crude, because it is easier to refine. But in recent weeks it has consistently traded lower than heavier blends.
This week it was the IEA’s turn. In a two-page breakout box titled “WTI Benchmark: Past Imperfect, Future Tense” in its latest monthly outlook, it took aim at problems around the physical delivery point for WTI, which is in Cushing, Oklahoma:
US West Texas Intermediate (WTI) crude traded on the New York Mercantile Exchange has reigned for decades as the most important pricing benchmark in global oil markets despite its tangible logistical flaws. Inherent operational problems related to the WTI contract delivery point in landlocked Cushing, Oklahoma have periodically triggered a disconnect with international crude oil prices, prompting industry participants to question the viability of WTI as a suitable benchmark for global oil markets. Past discontent with WTI has been quelled when market dynamics eventually correct the largely localised pricing aberrations.
After a short history of WTI’s benchmark role, it goes on:
The unprecedented collapse in the WTI pricing structure over the past six weeks has, once again, called into question the relevance of WTI as a global price benchmark. Sharply lower oil demand, rising Canadian crude oil flows into the region and swelling crude inventories at storage tanks in Cushing have collectively exerted enormous downward pressure on prompt month WTI prices and turned upside down traditional pricing
relationships with domestic and foreign crudes. Volatile WTI is sending mixed and misleading price signals not only to the market but to economic forecasters, government officials and policy makers.
It went on to suggest:
Short of opening a physical link to the US Gulf Coast, Nymex could alleviate existing problems with WTI by designating a second delivery point along the US Gulf Coast and increasing the number of crudes that can be delivered under the contract. Nymex already allows sellers to deliver Brent and Norwegian Oseberg at small fixed discounts to the settlement price, while Nigerian grades Bonny Light and Qua Iboe, and Colombia’s Cusiana can be fixed at a small premium.
The recently distorted price structure for WTI has raised doubts among many market participants about the future of the bellwether crude. In the near term, record stock levels at Cushing, anaemic oil demand and plans by refiners to sharply cut throughput rates in February and March could keep downward pressure on WTI prices. Further deterioration in the fragile WTI pricing mechanism would only serve to reinforce the view that the crude has become an irrevocably broken benchmark. Others argue that, though imperfect, WTI‘s reputation as a global price benchmark remains intact. Structural changes to expand the existing pipeline infrastructure, including a line to the US Gulf Coast, may also make for a more perfect union between WTI and Cushing by the end of the decade.
Nymex, the market on which WTI trades, defended its benchmark in the FT, saying there was little appetite from market participants for either of the IEA’s suggestions:
No industry users had indicated a need for a delivery point in the Gulf and previous attempts by Nymex to offer other grades of crude as deliverable alternatives had attracted negligible interest.
Mr Levin pointed out that description of WTI as a “landlocked” crude was incorrect because about 1m barrels a day of imported crude flowed directly into the US mid-continent market, which linked the WTI market directly with the seaborne market.
More: Ed Morse from LCM Commodities on why West Texas Intermediate is in jeopardy