Sandy Fielden, RBN Energy
On Friday (October 19, 2012), West Texas Intermediate (WTI) crude futures for delivery at Cushing, OK closed at $90.05/Bbl – some $20 below the price for the similar grade Light Louisiana Sweet (LLS) crude sold at the Gulf Coast. We believe that price differential will fall as new supplies of domestic and Canadian crude find their way to the Gulf Coast next year (2013). Supplies of South Texas Eagle Ford are already arriving at the Gulf and a new Platts Marker price shows them being priced against LLS. Today we look at the Eagle Ford marker price and what it means for the status of LLS versus WTI.
Last week (October 16, 2012) Platts began quoting two new prices for Eagle Ford crude in South Texas in their daily crude oil market report. These quotes mark the first attempt to provide a market price for Eagle Ford that traders can reference in transactions. We previously looked at the issue in our blog series on Eagle Ford (see Knocking on Heaven’s Door – The Eagle Ford Story Part I) and found that a range of different crude API gravities complicated the pricing situation with many falling into the condensate category above 50 API degrees. When we looked at pricing at the Gulf Coast for Eagle Ford (see Heaven Sent Blend – A Mars/Eagle Ford Mix) we discovered that quality and pricing varied widely with no agreement on a standard crude oil yield that could be used to determine refining value.
Platts have published a two page guide to the rationale and methodology of their new Eagle Ford pricing (download a copy here). The first of these price assessments is a straight average of four company postings (for more on how postings work see The Bakken Buck Starts Here – Crude Pricing Part I). The postings index is simply an average of the current prices paid by refiners and marketers for crude sold at the wellhead.
The more important Platts price quote is called the Eagle Ford Marker - calculated as a differential (discount or premium) to Light Louisiana Sweet (LLS) crude. Because of the confusing range of crude qualities coming out of the Eagle Ford, Platts are using a quite sophisticated mechanism to calculate the Eagle Ford differential. Platts use a refinery yield calculation (see Refinery Yields Forever for an explanation of how refinery yields work) to arrive at the differential to LLS in their marker price for Eagle Ford. The box below provides detail on how the marker price is calculated.
The new mechanism is designed to provide two things. First an acceptable “typical” specification for Eagle Ford and second a relative valuation for that specification against LLS. Platts are encouraging the industry to use the resulting marker price as a reference in Eagle Ford crude transactions. For example, an Eagle Ford sale by a producer to a refiner in Houston might be negotiated as a differential to the Eagle Ford marker based on higher or lower API specifications and transport cost from South Texas to Houston.
There are two important conclusions we should draw from the new price marker. The first is that Platts has recognized that pricing Eagle Ford using West Texas Intermediate (WTI) crude is not relevant to the market. Previously US domestic crude pricing has largely been based on differentials to WTI at the Cushing, OK hub that is the delivery point for the NYMEX crude oil futures contract.
In the past two years, a disconnect has arisen between WTI Cushing and Gulf Coast crude prices caused by growing supplies of Canadian and Bakken crude into the Midwest and a lack of pipeline capacity out of Cushing to the Gulf. This disconnect has led to Gulf Coast crudes such as LLS being priced against the international Brent benchmark that sets the price for Gulf Coast crude imports. WTI has traded at a considerable discount to Brent and LLS at times more then $20/Bbl. By using LLS in their Eagle Ford marker price mechanism, Platts are recognizing the reality that Eagle Ford crude competes with LLS not WTI.
Source: CME Data from Morningstar and Posting Data From Flint Hills
This realization runs contrary to refiner and marketer postings that are currently still pricing Eagle Ford against WTI. The chart above shows the difference between the Eagle Ford price posted by Flint Hills and WTI NYMEX (blue line) as well as the difference between the Flint Hills posting and LLS (red line). You can see that the WTI differential has a straight-line relationship that shows Flint Hills calculate their posting as a differential to WTI. The LLS price bears little relationship to the posting. Because WTI has been heavily discounted to LLS it has definitely been in refiner’s interest to pay Eagle Ford producers a lower price based on WTI. Now with pipeline, barge and rail infrastructure to Gulf Coast refineries available to producers, the pricing point for Eagle Ford is moving away from South Texas towards the Gulf Coast.
In other words, since producers have no interest in delivering Eagle Ford to the Midwest where prices are lower, they are delivering to the Gulf Coast and expecting higher prices based on LLS. The Platts marker price reflects this evolution.
A bigger question that this price mechanism raises is whether WTI Cushing will reassert its leadership in the US domestic crude market once the Midwest logjam unwinds and supplies of crude from Cushing begin to arrive at the Gulf Coast in quantity next year (See Place Your Bets on Narrow Brent WTI Spread for the Superbowl). As we have discussed, the resultant flow of crude to the Gulf Coast will push out most light sweet crude imports and disconnect LLS from the international market (Brent). At that point there should be a fairly stable differential between WTI and LLS based on transport costs between Cushing and the Gulf Coast ($5-$6/Bbl by our estimate). If WTI remains King of the Hill then LLS prices will simply be assessed as a differential to WTI and LLS will return to the ranks of domestic crude paying homage to West Texas.
In the meantime, new domestic crude production such as Eagle Ford and Bakken is arriving at the Gulf Coast in increasing quantities (much of the Bakken crude by rail) and being priced against LLS. Could LLS emerge from this situation to topple WTI from its status as the default benchmark for US domestic crude? We shall have to wait until next year to see how this plays out, however the new Platts Eagle Ford marker is certainly a strong indication that LLS will be the dominant Gulf Coast crude. Of course, in a head to head clash of the titans, WTI has the advantage of 60 MMb/d traded on the NYMEX every day in its favor as a price mechanism.
Perhaps the most interesting development in the next year will be how Permian crude from West Texas (i.e. WTI) is priced when supplies begin to be shipped to the Gulf Coast. We will be watching with interest to see whether WTI crude at the Gulf will be priced at a differential to LLS rather than to Cushing WTI.
About the author
Sandy Fielden serves as Director Energy Analytics for RBN Energy LLC and is an internationally accomplished professional with 25 years of management and communication experience in the European and North American energy industry, including ten years as a vice president at industry leading firms. He is a widely recognized expert at analyzing, processing, and communicating the value of a wide range of information in the energy industry.
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