Purvin & Gertz Publishes Study Analyzing History of Benchmark WTI Crude Oil

Jan 14, 2010, 14:00 ET from Purvin & Gertz

HOUSTON, Jan. 14 /PRNewswire/ -- Purvin & Gertz, an independent energy industry consultancy, released a study today, The Role of WTI as a Crude Oil Benchmark, analyzing the dominance of the light, sweet crude oil futures contract (WTI), and its role as an international benchmark.  

The company, which has headquarters in Houston, and has an international network of offices in the United States, Canada, South America, Europe, the Middle East, Russia and Asia, detailed the evolution of the oil markets, with a focus on WTI, and how it came to prominence as a benchmark in global trading from the 1970s to present day.  

The study explains how Cushing, OK, became the delivery point of choice for WTI by representing a hub for the local crude for refiners in Oklahoma, Kansas and Missouri and also the central gathering point for terminus of pipelines originating in Texas and Oklahoma, with connections for deliveries on to the Midwest refining centers.

"Because of its relative liquidity and price transparency, the contract continues to be used as a principal international pricing benchmark," said Ken Miller, Vice President, at Purvin & Gertz.  "The total open interest has gone from less than 100,000 contracts in 1986 to peaks over the last year of almost 1.6 million contracts, reflecting extensive participation from commodity users around the world.  If options trading were included, the open interest peak would approach 8 million contracts."

In addition, the study, which was commissioned by CME Group, examines the mechanics of price determination and performance for WTI.  

Mr. Miller said, "The key to understanding WTI prices, and price relationships with other regional and international benchmarks, is calculating the arbitrage relationships among the crudes by incorporating the flow dynamics and transportation costs to compare the prices at various market locations, including relative values. This allows defining the actual physical interface that is setting the market price for the crude being analyzed versus its competition. Historically, there have been several seasonal "parity" situations (points of economic equalization) that have set prices of WTI, consistent with the seasonal demand fundamentals, directions of flow and the respective pipeline tariffs for the deliveries.  It is notable that, whichever of the parity conditions is operational, WTI-Cushing is responsive to and reflective of overall market conditions; but its value relative to other crude streams at other locations does change. The relative level of discount or premium for WTI versus the U.S. Gulf Coast simply reflects the shifting "parity point" where these crudes physically interface with each other, recognizing periodic influences of disruptions to normal supply/demand and trade dynamics, such as hurricanes and refinery outages."

With respect to Dated Brent, the study concluded the following:

  • Brent is frequently criticized for the structure and mechanics of its price determination process, especially given its inherent lack of transparency and illiquidity, and it can become unhinged from market fundamentals.  Paradoxically, WTI is criticized for reflecting fundamentals, specifically fundamentals in the Midcontinent and Midwest markets when they are temporarily not aligned with parts of the waterborne market.
  • Recent time structure anomalies also have shown up in the Brent quotations used for the benchmark formulas. While, the overall markets were in steep contango (price increases as date is further is out in time), the Dated Brent versus the Month One (forward contract) quote showed uncharacteristic backwardation (price decreases as date is further out in time).

The full study can be found at http://purvingertz.com/content/articles/PurvinGertz_WTI_Benchmark_Study.pdf

SOURCE Purvin & Gertz