Physical Markets, Paper Markets and the WTI-Brent Spread

Abstract

We document that, starting in the Fall of2008, the benchmark West Texas Intermediate (WTI) crude oil has periodically traded at unheard-of discounts to the corresponding Brent benchmark. We further document that this discount is not reflected in spreads between Brent and other benchmarks that are directly comparable to WTI. Drawing on extant models linking oil inventory conditions to the futures term structure, we test empirically several conjectures about how calendar and commodity spreads (nearby vs. first-deferred WTI; nearby Brent vs. WTI) should move over time and be related to storage conditions at Cushing. We then investigate whether, after controlling for macroeconomic and physical market fundamentals, spread behavior is partly predicted by the aggregate oil futures positions of commodity index traders.

Is there a structural change in the persistence of WTI–Brent oil price spreads in the post-2010 period?

“…First, as Büyükşahin et al (2013) have shown structural breaks in WTI-Brent spread levels in 2008 and 2010, whereas we have found the persistence change in late 2010, how can these two statistical patterns be distinguished, and can they co-exist? Second, both WTI and Brent oil prices experienced a sharp decline in the first half of 2015 and the spreads have narrowed to the range of $5-10 per barrel.…”

“…Lee et al (2010) also found structural breaks in the conditional variance and jump intensity of WTI crude oil prices, with an estimated breakpoint at the end of 1999. There have been very few empirical studies of structural breaks in the WTI-Brent spread dynamics; an exception being that of Büyükşahin et al (2013), which focused on the level of change. They assumed two breakpoints in the spreads, in 2008 and 2010, and then applied the Chow F-test to examine their conjecture.…”

“…They also found that WTI dominates the price discovery process when WTI and Brent are cointegrated. Furthermore, Büyükşahin et al (2013) show that infrastructure bottlenecks at Cushing contribute to the discounted prices of WTI. In fact, Fattouh (2011) attributes the dislocation to the build-up of excess inventory in Cushing since 2007.…”

On the Price Spread of Benchmark Crude Oils: A Spatial Price Equilibrium Model

“…The dramatic increase in Brent-WTI spread generated a great deal of median attention, most notably because its cause was so unclear. Many media describe this as a result of the "bottleneck" problem in Cushing, OK, which is consistent with some academic studies such as Buyuksahin et al (2013), but the actual source of shocks that induced the bottleneck problem has not been convincingly identified.…”

Forecasting the oil–gasoline price relationship: Do asymmetries help?

“…Many commentators have attributed this price differential to a combination of factors. Infrastructural problems, coupled with expanding production, have led to a glut of crude oil at Cushing, Oklahoma, where WTI is priced (Büyükşahin et al, 2013). Excess supply of oil in the Midwest and falling oil production in the North Sea (IEA, 2014;Montepeque, 2013) have therefore decreased the WTI price relative to the price of Brent.…”