Oil spreads may have peaked as Canada sends oil to Europe

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Oil prices continue to slowly inch higher as the market sentiment seems to be moving more and more toward a bullish bias. The spot Nymex WTI futures contract has been hugging the upper end of the upward trending trading channel since the middle of January. Although the nearby fundamentals are still biased to the bearish side there have been a plethora of items that have helped to keep the markets focus more on the forward fundamentals, which at the moment look more constructive than the nearby supply and demand balances.

From a technical perspective the spot WTI contract has now cleared its last resistance hurdle of $95/bbl and moved into a new... higher trading range of $95/bbl to $100/bbl. On a longer-term view, the spot WTI contract has been in an uptrend since bottoming out at around $85/bbl back in the first half of December of 2012. The spot Brent contract has not moved to the upside with the same conviction as the WTI contract as more market participants shed some of their long Brent/WTI spreads. Since mid-December the Spot WTI contract has increased by almost $12/bbl while the spot Brent contract has gained about $5/bbl. That is a significant adjustment in the spot Brent/WTI spread.

The March Brent/WTI spread is now trading around the $15.70/bbl level or the lowest level since the second half of September. Although the crude oil inventory situation in both Cushing, Ok and PADD2 are still sitting at all-time highs the changing logistics has the market convinced that the draining of this region of the U.S. of its surplus crude oil will begin with earnest over the next month or so. The expanded Seaway pipeline is already pumping near its new maximum capacity of about 400,000 bpd and along with rail and barge movements we should begin to see an impact at least by the second quarter at the latest. With more and more oil from the prolific Bakken field moving all the way to the east coast of the U.S., east Canadian crude oil has now actually moved to northwest Europe recently.

Eastern Canadian crude almost always goes to the U.S. northeast refineries. In a rare situation the arb window to move about 2 million barrels of East Canadian crude oil to northwest Europe opened. It is too early to say that this arb movement will now be a sustained changed in the logistics, but it certainly is worthy of putting on the radar as something that could have an impact on the Brent/WTI spread if it continues.

If the movement becomes more regular it serves to move more crude out of the surplus Midwest U.S. to the east coast to displace east Canadian crude. That is bullish for the WTI side of the equation while the movement of east Canadian to northwest Europe is bearish for the Brent side of the spread. In essence it is like virtually exporting U.S. crude oil (which is not permitted). So yes something to watch on the changing physical relationships of an international crude oil market that has been dynamically changing for the last few years. Barring a major geopolitical event impacting the flow of oil to Europe, I would say that the Brent/WTI spread has likely peaked for the year and will continue in a slowly evolving downtrend throughout the year. I am expecting the spread to be trading in single digits by the third quarter of this year.

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