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Schork Oil Outlook: London Traders' Split With NY

Cushing, Okla. …There’s going to be a floody, floody...

Aside from a one-off related to the recent disruption to Canadian crude oil flows into the Midwest, the table is set for a material build in supplies at the NYMEX delivery hub in Cushing, Okla.

Last night (Monday's), the penultimate crude oil contract on the Nymex for delivery in October settled at a $1.33 discount (contango) to the November contract.

Since this time-spread went prompt in late August it has averaged a $1.18 discount. That is more than enough of an inducement to carry barrels, i.e., increase inventory by taking delivery of the October barrels, to deliver them against the November contract one month hence.

This event has created a large distortion with the corresponding Brent contract in London. Whereas Brent typically trades around $1.50 below the WTI contract in New York, the market in London has now been trading at a premium since the middle of August. Last night the November Brent settled at a $3.17 premium and has averaged a $1.31 premium since August 17th.

Meanwhile, a week ago yesterday, when spot crude oil hit 78.04, Goldman Sachs came out with their $85-$95 trope. According to published articles, Goldman expects “… the [oil] supply/demand balance to continue to tighten in the second half of 2010…”

Perhaps, but the Nymex oil curve “expects” the supply/demand balance to remain comfortable, hence the bid for storage. For example, building on the theme in the first paragraph, last night October WTI settled at a $6.35 discount to the contract for April 2011 delivery. In other words, you can take delivery of oil in October and the market will pay you to keep it in storage through the winter!

If the market was really concerned regarding a tightening in the supply/demand balance in the second half of 2010, then you would not be able to do that.

On the other hand, because of geography and quality, the Nymex contract’s relevance as a global marker has been diminished over the last five years. Therefore, we tend to assign more weight to the Brent contract in London as an indicator of the market’s perception of global supply-demand balances.

In this vein, traders in London are not as comfortable with global balances as their brethren in New York, but as illustrated in the Chart of the Day in today’s issue of The Schork Report, they’re not overly concerned either, i.e., the market is still in contango. We will further this analysis in tomorrow’s issue.

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Stephen Schork is the Editor of The Schork Reportand has more than 17 years experience in physical commodity and derivatives trading, risk systems modeling and structured commodity finance.

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