Ships like crude tankers are used for arbitrage activities. Their purpose, in part, is to make the world more interconnected and globalized. Where there are price differences, ships are often employed to fill in this difference. But sometimes, this can act in the opposite direction.
WTI and Brent price relationship
WTI (West Texas Intermediate) is a well-known benchmark price for U.S. crude. In the past, WTI has traded at a premium to the international benchmark, Brent, as U.S. crude was of higher quality and closer to U.S. refiners. But since late 2010, that relationship has decoupled, and WTI now trades below Brent due to a supply glut. Supply is building up in the United States because there isn’t enough capacity to take away the surge in domestic supply to refiners.
Impact on refiners
However, a lower WTI means cheaper domestic oil for refiners. This could result in a shift to use more domestic oil as opposed to imported oil. The differential between Brent and WTI recently narrowed this year as a supply glut alleviated when more infrastructure was completed to move crude oil from inland to the coastal refiners. The spread recently widened again as refiners went into maintenance and another surge of new supply began.
The catalyst behind the narrower spread isn’t necessarily positive for crude tankers because it means there’s more domestic supply available for refiners to take away. But on the other hand, the narrowing of Brent and WTI could give refiners less incentive to use more domestic oil and continue to import foreign oil, which has often been the case over the past two years. Such is the complicated nature of the world market, which is a reason investors should follow multiple indicators to get a better picture of the industry. (From an investment standpoint, though, simple ideas often work better.)
Key thoughts and notes
If there’s one thing we know for sure, it’s that a sustained underpricing of WTI to Brent would likely point to lower oil imports over the next decade. This means crude tankers and oil producers will have to find another customer. If they can’t, companies like Frontline Ltd. (FRO), Tsakos Energy Navigation Ltd. (TNP), Teekay Tankers Ltd. (TNK), and Nordic American Tankers Ltd. (NAT) will be negatively affected. This outlook also applies to the Guggenheim Shipping ETF (SEA).
© 2013 Market Realist, Inc.
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