OPEC Reference Basket
Cold weather and increased investment flows helped oil futures and the OPEC Reference Basket to continue the upward trend in the first weeks of 2010. The OPEC Reference Basket hit $80.29/b on 11 January, the highest since early October 2008, after ten consecutive sessions of gains.
However, the momentum came to an end just after temperatures in the Northern Hemisphere increased and concerns about global economic growth emerged again. A stronger dollar and downward corrections in the equity markets also contributed to the decline in prices. As a result, the OPEC Reference Basket started to decline to settle at $71.01/b on 29 January – the last business day of the month – implying a loss of more than $9 or 11.6% in 14 days. Over this period, the Basket increased just in one day, on 14 January.
All the Basket components dropped within that period, particularly Ecuadorian crude, Oriente and Middle Eastern crudes. Oriente lost around $10.50/b and Middle Eastern crude saw losses between $9.15/b for Arab Light and $9.70/b for Iran Heavy while Brent-related and Venezuelan Merey crudes declined by almost $8.50/b. Higher
demand for distillate-rich crudes in Europe and Asia Pacific following improving distillate margins helped Middle Eastern crudes to strengthen in early January.
Abu Dhabi reduced allocations from contractual supply by as much as 13%, lifting Murban values for March cargoes to a small premium to the ADNOC OSP after three months of discounts. However, as temperatures retreated from unusually low levels, demand for middle distillate-rich grades fell along with refining margins, leading to bearish
sentiment for Middle Eastern crudes in most of the second half of January. The heavy crude market was the most affected. It has been sluggish over almost the whole month on a supply glut before it got some support at the end of the month after Abu Dhabi deepened its supply curbs on the heavy Upper Zakum grade for March. Increased
Russian offers of its new ESPO blend also put downward pressure on the mediumheavy crude market.
The OPEC Reference Basket showed some recovery in early February before it dropped to $69.76/b on 9 February. The last time when the Basket was below $70/b was on 9 October 2009.
The oil futures market
Oil futures remained strong in early January, supported by very cold weather in the Northern Hemisphere. However, in the US, Nymex WTI front-month continued the upward trend started in mid-December 2009 to hit a 15-month high of $83.18/b on 6 January before declining as temperatures improved. With the exception of 8 and 25 January, the WTI front-month has declined over all the traded sessions, losing nearly $10.30 in 16 trading days to settle at $72.89/b on 29 January – the last business day of the month and the lowest after the $72.47/b seen on 21 December 2009.
However, despite this downward trend, WTI front-month averaged $79.34/b in January, up $4.74 or 6.4% from December. The gain over the previous month was due to the combination of weakness from the first half of December and strong levels in early January. Compared with a year ago, WTI front-month in January 2010 displayed a gain of $37.42 or 89%. This was mainly due to the low levels seen in the previous year as prices plunged to as low as $35.4/b on 15 January, following the collapse of the financial market.
The drop in WTI front-month was exacerbated by bearish economic news from the main consumer countries as well as a stronger dollar. The re-emergence of concern about global economic growth and hence oil demand was triggered by several news. Firstly, China, the world's second-largest energy consumer, surprised markets by raising
interest rate for the first time since August. The move to tighten monetary policy was seen as part of an effort to cool down its economy in order to avoid overheating. This could likely imply lower GDP growth and oil demand.
Secondly, in the US Administration’s proposed restrictions on the US banking sector has raised concerns that they would not only undermine the financial sector's profitability, but also result in a decrease in liquidity on commodity markets. As a result, all asset classes were under significant pressure. Thirdly, in Europe, growing concerns that Greece's economic problems, resulting in a weaker euro, also contributed to the bearishness in the oil market. The recent draw in oil stocks — both commercial and floating — which remained high also contributed to the decline in oil futures.
In addition to milder weather, high inventories, concern about economic growth and investor activity, the futures market was also affected by the US dollar and equity markets. The relationship between the US dollar and WTI became stronger again in late January when the WTI March contract was weakening while the dollar was strengthening, particularly against the Euro when it hit a six-and-a-half month high. Similarly, the relationship between futures and equity markets strengthened as growing concerns about economic prospects affected the stock market. The WTI front-month was also pressured by increasing stocks at Cushing, Oklahoma, the delivery point for
WTI, to the all-time high of almost 36 mb in early January.
However, the weaker dollar in combination with higher equity markets and positive data on US manufacturing and consumer spending helped the Nymex WTI March contract to recover in the first day of February from a five-week low. The recovery continued the second day before a bearish report showing US crude oil inventories increasing more than expected in the previous week and refinery rates dropping to their lowest levels since 1990, pushed prices down back to less than $77/b on 3 February. Bearish sentiment amid a plunge in equity markets, higher-than-expected rise in US jobless claims, sovereign debt concerns (particularly in European Union), and strength of the
US dollar to a seven-month high against the euro, made the WTI front-month fall by $3.89 or 5% on 4 February, the largest drop in a single day since July.
Prices dropped further on 5 February when estimated daily trading volume for the WTI front-month hit 54,000 positions shortly after settlement. Daily trading volume for all crude oil futures contracts hit 1,007,414 positions. The record remains at 1,092,509 positions of 6 June 2008, around one month before WTI front-month prices hit an all-time high.
After increasing net long crude oil positions in December, money managers raised them further in early January to more than 177,000 contracts in the week through 19 January 2010, the highest since 2006. However, bearish sentiment in the market pushed money managers cut net long positions sharply in the week through 26 January to 133,155 lots. The previous cut was in the week-ending 15 December 2009. Net long positions were cut further in the week ending 2 February to 121,074 lots.
Open interest on the Nymex WTI increased further in January to stand at 1,360,697 at the weekending
2 February, the highest level since 13 June 2008, a month before the WTI front-month hit its all-time high of more than $147/b.
In Europe, ICE Brent followed almost the same trend as WTI. Brent February contract reached almost $81.90/b in the first week of January to drop to $71.46/b in the end of the month, implying a loss of $10.43, almost in step with the $10.30 drop in Nymex WTI. For the whole month, Brent averaged $77.91/b in January compared with $75.21/b in December and $45.71/b in January 2009. Like WTI, Brent front-month also recovered in the first two days of February before losing 14 US cent or 0.18% and $3.79 or 5% in the following two days to settle at $72.13/b on 4 February. It moved even below $70/b on 5 February.
The spread between the WTI-Brent front-month contract was almost stable around $1.40/b in January but recovered strongly compared to the previous month when it stood at minus 59 US cent/b. It dropped only once below $1/b to 89 Us cent/b on 15 January when Brent fell by just half of WTI’s loss (71 US cent against $1.39). The spread strengthened in January on the back of stronger demand in the US and the increase in storage capacity
at Cushing. In February, the WTI-Brent spread fell to more than minus $10/b on 12 February 2009 when Cushing rose to a high level of 34.9 mb.
The futures market for both WTI and Brent remained in contango in January but the respective curves have flattened. The expansion in storage capacity at Cushing has also contributed to the softness in the contango as
traders holding WTI contracts may now be less concerned by swelling in Cushing stocks. The discount for front-month WTI versus a month later narrowed 34% between 4 January and 4 February. It moved from 61 US cent/b
to 40 Us cent/b whereas the spread between 1st month and 12th month has widened to $5.36/b from $4.79/b a month earlier as the front-month was the impact of the bearishness was more pronounced on the front-month. Regarding Brent, the spread between the 1st and the 2nd month has almost halved to move from 67 US cent/b to 36 US cent/b. and the spread between the 1st month and the 12th month dropped by just 4% to $5.54/b.
The sour/sweet crude spread
The Brent-Dubai spread remained negative in January but dropped to average minus 5 US cent more than half of December’s level of minus $1.14/b. The decline in the spread is attributed to the bearish sentiment for Middle Eastern crude amid increasing supply. The spread even turned positive in late January and early February. A negative spread opens opportunities of arbitrage for West African, Mediterranean and Russian crudes to move to Asia as the price of lower-quality Middle Eastern crude was higher compared with higher quality crudes.
The introduction of Russian new blend ESPO into Asia- Pacific market in January has also put pressure on Middle Eastern crudes. The frontmonth Brent/Dubai Exchange for Futures (EFS) for March rose to 20 US cent/b in the first week of February as Saudi Arabia cut March OSP of Arab Light and Arab Medium crudes for Asian customers, despite healthy fuel oil cracks and improving refining margins. The cut in OSP might be driven by the anticipation of lower seasonal Asian demand.
The Brent-Urals spread narrowed in January and moved even in negative territory during few days. Russian Urals crude strengthened on the back of improving refining margins and received support from the price hikes of Saudi, Iraqi and Iranian OSPs to Europe. Russian crude was also supported by a drop in loading programmes and delays in the Black Sea and port closures. The spread averaged 10 US cent/b in January compared with 40 US cent/b in December.