WTI oil: Are 2012 highs on the cards?

Two interesting developments in the oil market occurred this week: 1, WTI (US oil) broke to a 14-month high, and 2, the spread between Brent and WTI fell to its lowest level since 2011.

Usually Brent trades at a premium to WTI, so what is going on? Here are some of the reasons why WTI’s star is in the ascendency:

• Relative growth outlook Europe/ UK: although the IMF cut the US’s growth forecast, it is still expected to grow 1.7% this year, the IMF expects Eurozone GDP to contract by 0.6%.

• WTI crude supplies are tight. Even though supplies at Cushing (the major US oil trading hub) reached a record high of nearly 50 million barrels recently, a lot of this crude is of lower quality than WTI.

• The WTI crude market is in backwardation – this means that the futures price of a WTI contract is lower than the spot price. When this happens passive investors can earn a yield when they sell an expiring futures contract and replace it with a new one, which may add to upward pressure on the spot price in the near term.

Market ideas:

1, In the short term we could see the Brent/ WTI spread narrow further, back to 2010 levels at $2.25 – the lows from late 2010 - as the reasons for WTI’s outperformance remain valid.

2, In the medium-term the backwardation curve looks overstretched: The spread between the active WTI contract and the December 2013 contract is at its highest ever level, and could be due a pullback. Thus, we could see some flattening of this curve in the coming months, as either the price of the front-month WTI contract falls or the longer-dated contract rises.

3, So what about spot? The short term bias is higher above $104.60 – the daily pivot. This opens the way to $107.00 – the highs from April/ May 2012, then to $110.55- the highs from the start of March 2012.

12.07.2013