New swings for West African crudes

While most recent analysis has focused on the potential impact of the US ‘tight oil’ revolution on global oil supplies and oil price levels, the impact on the shifts in trade flows and on the dynamics of price differentials has received much less attention. This is quite surprising, as the recent transformations in the US energy scene have manifested themselves most visibly through changes in crude oil and product flows with consequences on the behaviour of time spreads, inter-crude spreads, and the pricing of various crudes in relation to global benchmarks. This Comment explores some of the structural issues affecting WAF crude trade flows, providing a case study of how the US tight oil revolution is shaping oil market dynamics. The growth of US tight oil led to the first wave of structural change as the USA gradually backed out imports from West Africa, but because of a variety of factors (such as higher appetite from Asia, the loss of Libyan production making Europe switch to WAF barrels, and a spate of disruptions to WAF output) the loss of the US market was not fully felt on WAF crude prices. However, beyond these temporary factors, a couple of ongoing trends are forming the second wave of structural changes impacting West African differentials. The first of these is the changing structure of global refining. Much higher US, Russian, and Middle Eastern runs have meant that Europe is now the balancing point for global refining, a trend which is expected to continue. The second is the further backing out of WAF crudes from North America. While the USA largely backed out WAF grades by the second half of 2013, as domestic output and infrastructure continued to improve, this year has seen a significant increase in US crude exports to eastern Canada. As a result, Canadian imports of WAF crudes have fallen, implying that there is more crude oil available for clearing in the Atlantic Basin. In a way, WAF has become the swing barrel heading to North America, depending broadly on WTI–Brent differentials. But the implications have not been limited to markets in the USA and Canada. Since the marginal barrel sets the benchmark price, backed WAF barrels from North America are playing a more important role in the Brent price formation process.

By: Bassam Fattouh