Market Economics | Interest Rate Strategy - BNP PARIBAS ...

available capacity to store surplus crude oil is limited.
While capacity at Cushing has been growing, some of
this storage will be used to increase supplies of heavier
Canadian grades. Alternatives in the form of floating
storage will progressively fall as oil demand recovers.
Given that we see lacklustre prospects for gasoline
demand on the back of a jobless recovery, the scope
for a recovery in US light crude demand seems limited,
notably when, given the addition of conversion capacity,
the heavier (and cheaper) barrel is likely to be favoured.
In addition, the second phase of TransCanada’s
Keystone pipeline expansion will reportedly begin
service this quarter, delivering more Canadian oil
directly to Cushing. A further extension of the pipeline to
the Gulf Coast is still some time away, so without
geographic ‘optionality’, the potential for episodic supply
surpluses remains intact, as does the contango and/or
weakness relative to Brent.
On the Brent side, if an increase in February North
Sea loadings eases supply tensions, the y/y declines
in North Sea crude production (Chart 3) structurally
favour a stronger Brent price. And as the production
base continues to shrink, the benchmark can only
become more upwardly sensitive to disruptions in
comparable quality supplies (Nigerian Bonny Light
for Brent and Angolan Cabinda for Forties, part of the
dated Brent benchmark).
Brent and commodity index switching
Investors’ behaviour may finally be changing, as they
seek to reduce the incidence of large negative rollyields
on the WTI curve by switching to the Brent
contract. While the trend in open interest for WTI and
Brent over 2009-2010 has not shown clear and
present divergence (Chart 4), this could change with
persistence of bouts of WTI weakness tied to
Cushing storage developments.
Contrasting the share of WTI and Brent in the GSCI,
a large long-only passive commodity index (Chart 5),
the re-balancing of weightings in 2011 has been in
Brent’s favour, though WTI still retains the lion’s
share of oil’s contribution to the index.
But investors are not confined to indices, and long
positions on futures can be held independently. As
such, it would not be surprising to see this year more
funds diverted Brent’s way to minimise negative rollyield,
providing an additional factor of support for
Brent relative to WTI in addition to the fundamentals
discussed above.
Harry Tchilinguirian 20 January 2011
Market Mover Non-Objective Research Section
68
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