U.S. exports have spiked in recent weeks, upending longstanding trade flows. But while that may be good news for some U.S. drillers, the unusually high level of crude exports are not obviously a good sign about the health of the oil market. At the same time, it is not guaranteed that U.S. producers will be able to continue to ship oil abroad at such a high rate for very long.
U.S. oil producers were prohibited from exporting crude oil for decades until Congress scrapped the ban at the end of 2015. For much of last year, exports only rose slightly. But that changed in 2017 – U.S. crude oil exports topped 1 million barrels per day (mb/d) several times in recent weeks, double the rate from a year earlier.
The exports provide an outlet for shale drillers but they also put pressure on the global oil market. In the past, the export ban would have meant that U.S. shale drillers would have had to suffer through a glut and cutback on production. Now, they can continue to ramp up and export the gains. Without the ban, shale drilling and production are both rising quickly. The EIA now expects the U.S. to break its all-time production in the near future, and average 10 million barrels per day next year.
However, one of the major reasons why exports are rising is because of the discount that WTI trades at compared to the more internationally-oriented Brent benchmark. WTI has often sold for several dollars per barrel less than Brent, making it much more attractive for buyers. Thus the surge in exports this year.
But as buyers turn to American crude, the WTI benchmark is set to converge towards Brent, shrinking the discount. In fact, that is already happening. The WTI-Brent discount shrank from nearly $3 per barrel in May to less than $2 per barrel more recently.
As the discount narrows, U.S. crude will lose a bit of its competitiveness compared to other producers around the world. That could put a ceiling on the growth of oil exports – in the most recent data, the EIA reported a fallback in crude exports to just 557,000 bpd for the week ending on June 2.
Meanwhile, a shrinking WTI-Brent spread means that oil from abroad becomes relatively cheaper for U.S. refiners. If WTI and Brent are near parity, refiners sitting on the East Coast of the U.S. will be more likely to import oil from West Africa, for instance, rather than buying crude shipped by rail from North Dakota. The end result, then, from a smaller WTI discount could be rising U.S. imports.
Higher levels of imports could also mean smaller drawdowns in crude oil inventories. The latest data actually showed an increase of 3.3 million barrels, plus an increase of 3.3 million barrels of gasoline. The downbeat report came even as refiners ramped up processing. In essence, higher crude imports contributed to higher crude storage, while higher refinery runs led to an uptick in gasoline stocks. Bearish all around. The data release from the EIA led to a selloff in WTI and Brent by 5 percent last Wednesday.
“It’s about total stocks, crude and products, because that’s what the world wants to see, that’s what OPEC wants to see," Michael Wittner, head of commodities research at Societe Generale SA, told Bloomberg after the EIA data was released on June 7. "A week ago, you could say three of the past four weeks, it has come down, you are starting to see a trend develop. And then today, boom, the whole thing falls apart.”
Even if we assume that oil inventories continue to fall, it might only be because refiners are spinning out gasoline and diesel and exporting it. Rather than that resulting in a true rebalancing, it would simply shift the glut to the international market. In fact, a new report from Morningstar calls the past few weeks of drawdowns in U.S. inventories a “false prophet,” an indicator that is misleading the market. Sandy Fielden, director of oil products research at Morningstar, says that higher U.S. exports of refined products might help drain U.S. inventories, but that might also just displace crude oil demand abroad because foreign refiners no longer need to buy as much crude oil for processing.
"These exports replace finished products that refiners worldwide would otherwise be using crude to produce," Fielden wrote, according to E&E News. "Put another way, U.S. refined product exports reduce demand for crude outside the U.S. This effect is not new and in fact was a primary driver behind the crude price crash in 2014."
That all sounds very complicated, and indeed it’s tricky digesting so many variables moving in different directions. Put simply, higher levels of U.S. exports do not necessarily mean global demand is booming, which would help drain inventories. U.S. producers are simply taking advantage of temporary pricing differentials and shifting product abroad. If that accelerates drawdowns in inventories that would be a good thing for U.S. drillers, but it does not automatically mean that the oil market is rebalancing at a quicker pace.
By Nick Cunningham of Oilprice.com
