Crude supply imbalances slash Brent premium in wake of Venezuela sanctions

Premium quality crude oil barrels are currently at some of their cheapest ever levels in the global market, with supply imbalances causing quality spreads to narrow significantly and for sustained lengths of time.

Derivatives of light, sweet Brent crude have fallen to record lows versus Dubai derivatives traded on the Intercontinental Exchange in recent weeks.

All things being equal, a sour crude grade (with higher sulfur content), or one with a yield of more bottom-of-the barrel products such as fuel oil, would be worth less than a sweeter (lower sulfur), lighter crude that yields more premium product.

However, a sharp downturn in global supplies of heavier, sourer crude barrels over the last few months has resulted in demand for these grades climbing, along with prices. 

The spread between March Brent and Dubai swaps, for instance, has been consistently assessed below $1/b since 18 January this year, according to Platts assessments as of 0830 GMT at the Asian close of trading. The swap spread also flipped into negative territory for one day during this period, coming in at minus 21 cents/b as of 14 February, but corrected back the next day.

The same spread between front month Brent and Dubai swaps averaged $2.44/b over 2018.

Similarly, the spread between April Brent futures and April Dubai swaps, or the Brent/Dubai EFS, dropped below $1/b on 23 January, and has remained under since.

Although Brent/Dubai derivative spreads such as these have narrowed a handful of times in recent years, such phenomena are considered atypical and tend to snap back within relatively short periods of time.

Narrowing quality spreads offer arbitrage opportunities, both on derivatives markets as well as for physical crude oil flows, and traders are quick to take advantage of them. The resulting activity usually rebalances the quality spreads, especially those on paper, within a matter of days.

The front month Brent/Dubai swap spread, for instance, was last below $1/b on only two other occasions, once in 2018 and once in 2015. Both times, it snapped back within 5 days. The current streak has gone on for nearly two months.

The April Brent/Dubai EFS shrank to 21 cents/b at the close of Asian trading at 0830 GMT on February 14, a record low for the spread since S&P Global Platts started publishing it in August 2011.

In mid-February, Dubai crude's discount to Brent narrowed to its lowest on record amid tightening medium sour crude supplies from OPEC nations, including sanctioned Iran and Venezuela.

The EFS slid from a multi-year high of $4.42/b on April 30, 2018, to begin the year at $1.05/b as the momentum of shrinking supplies started to amplify.

Meanwhile, production of lighter, sweeter crude grades, including from the US, is on the rise, adding to an oversupply of such grades globally.

Venezuelan crude off limits

Market watchers in Asia had initially expected Venezuelan crude to be diverted readily from the US to Asian markets due to quality and arbitrage opportunities. But the sanctioned Venezuelan crude oil has been unable to make its way to Asia despite favorable arbitrage economics, largely due to financial issues arising from the nature of the import ban.

The new sanctions require any payment for crude from PDVSA to be deposited into blocked accounts within the US, effectively turning the US-centric ban into financial sanctions applicable globally, as one Singapore based crude trader put it.

Go deeper: Factbox on PDVSA sanctions, Venezuelan oil output and trade flows

The lack of Venezuelan barrels erases the possibility of easing supply tightness for Asian buyers, who are currently paying higher premiums for lower quality crude.

Price differentials and valuations for higher sulfur, heavier crude barrels exported from the Middle East have risen faster than lighter, sweeter crude grades as a result of production losses of such crude from OPEC cuts, Iran sanctions and the Venezuelan ban.

An offer for March loading Basrah Light crude with an API of 29.9 and 2.93% sulfur was sold at a 75 cents/b premium to its official selling price (OSP) earlier this month, while a similar offer for Basrah Heavy crude with an API of 24 and 3.83% sulfur was sold at a $1.15/b premium. The lower the API gravity, the higher the density of the crude grade.

Later in the month, a second such cargo of Basrah Heavy crude was sold at a premium of $1.45/b to the OSP. All three purchases are likely to head to Asia, said trading sources.

Meanwhile, price differentials for lighter, relatively lower sulfur grades such as Murban have traded in discounts.

Murban cargoes for March loading traded at discounts of around 30 cents/b last month, while April loading cargoes trading this month have been sold for as low as minus 20 cents/b. The cargoes trade as price differentials against OSPs set for the month of loading.