The Covid-19 pandemic had a tremendous impact on the oil industry. At one point, oil prices briefly fell below zero. Nonetheless, oil prices have since rebounded strongly and are holding above $80 a barrel.
The situation regarding the two most closely watched gauges of oil prices is quite interesting. They are acting in unusual ways. Let’s take Brent crude, the international benchmark tends to trade at a premium of several dollars to West Texas Intermediate crude oil, the U.S. benchmark. Interestingly, that’s because there has historically been a glut in the U.S. and too few pipelines to transport oil. WTI, as well as Brent prices, converged rapidly. WTI was just 61 cents cheaper than Brent on Monday.
The main culprit was demand. It increased on Monday, while supply remained about flat. Some people might not be aware but about a month ago overseas crude buyers paid for tankers to come to the U.S and buy the U.S. crude at a discount. At that time, the Brent WTI spread was above $4.
Oil prices and various factors
Supplies of U.S. crude in storage declined sharply. The amount of crude held in storage at Cushing fell by eight million barrels from October 1 to October 23, a 23% decline. The situation caused prices to rise, nearly to the same level as Brent. It is worth mentioning that the 61-cent gap was the lowest since July. The last time West Texas Intermediate crude oil was higher than Brent was in May 2020.
Conversely, the spread does not matter that much to users of oil products like gasoline. At the moment, it’s still expensive to fill your tank, no matter the spread.
Refiners like Philips 66 and Marathon Petroleum benefit from the spread because such companies can cheaply buy crude. They can refine it into products that refiners ship overseas at higher prices. As a reminder, because crude is an output cost, they can take advantage of WTI prices to boost profits. When spread narrows, nonetheless, refiners lose that edge. Currently, margins are at extremely low levels. Low margins tend to sort themselves out in the long run. If Marathon Petroleum or other refiners can not make enough money, they will simply reduce capacity. In the end, margins will rise again.
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