Spheres of influence: As Russian Urals is drawn east, and Brent is pulled into the orbit of WTI, the question of how to manage the west-east crude arbitrage is taking on new urgency. With Brent increasingly a European refining price and unable to provide a clear signal for Atlantic basin-origin exports, a trend is emerging of increasing trade conducted on the WTI Houston-Dubai spread, instead of the Brent-Dubai spread.
In the 21st century it has become a cliché to say that the gravitational centre of the global oil market is shifting east. The long-established demand centres in the industrialised west are giving way to burgeoning and energy-hungry economies in China and the wider Asian region.
Today, we can see that gravitational shift in action in a specific way. Russian Urals, the great anchor of the European crude market for decades, has been pushed east of Suez by western embargoes and sanctions, and is now a base-load grade in India, has found new homes in Pakistan, and is voyaging further afield into China.
Russia vied with Saudi Arabia for the title of world’s largest crude producer from 2002 up to 2018, when both were eclipsed by the US. Russian and Saudi output decisions, both unilaterally and through the Opec+ partnership, are key to the movement of global oil prices. Currently they are both voluntarily reducing output, supporting outright prices, and unconstrained US crude is flowing into Russia’s traditional market in Europe, and Saudi Arabia’s in Asia.
Unlike Saudi Arabia, which sells its output through long-term fixed destination contracts, Russian exporters have always been able and willing to sell high volumes of crude into the spot market. Prior to Russia’s invasion of Ukraine, Urals crude was the key export grade loaded onto vessels in the Baltic and Black seas for short-haul voyages to northwest Europe and the Mediterranean region, and piped to inland refineries from Leipzig to Budapest. But now, conflict and geopolitics, rather than economics, have forced Urals eastward.
In benchmarking terms, Urals has moved from the Brent sphere into the Dubai sphere — from a light sweet European benchmark, to a medium sour Middle East benchmark, which better aligns with its own properties. This shift has been made explicit by Russian exporter Rosneft, which is now pricing its sales of Urals to Indian customers at differentials to the Dubai price rather than Dated Brent. Others may follow. Argus is now assessing deliveries of Urals to India on both bases.
But Dubai is not the only crude benchmark used in Asia. It has regional rivals in the form of futures indexes set by trade of the Dubai Mercantile Exhange’s (DME) Oman contract, and Abu Dhabi Murban on the Ifad exchange. And of course Brent, both in the form of Brent futures and the physical Dated Brent benchmark, has been used widely across the region, particularly in the past 15 years when it supplanted the ailing Malaysian Tapis benchmark, which was beset by falling production and trade liquidity, much as Brent itself has been more recently.
However, Brent’s relevance to Asia is in question, as it has become an extension of the US Gulf coast crude market since May 2023. WTI Midland delivered to Rotterdam has set the Dated price around two-thirds of the time since its inclusion in the Brent basket, and it has forced other North Sea grades such as Forties to price at discounts to clear in Europe.
Urals was never formally included in Brent, but having such a large volume of crude produced in Europe and priced against Dated Brent gave a solid foundation to the benchmark. Indeed, it was the removal of that foundation — first by self-sanctioning among traders and refiners in the wake of Russia’s invasion of Ukraine, then through an EU embargo shutting Urals out of most of Europe — that paved the way for the inclusion of US crude in Brent.
It has often been said that a chief reason that Brent became globally important was because Russian and west African producers chose to price their exports against it, leading others to follow. Incumbency is powerful, but not guaranteed. Benchmarking behaviour change happens at two speeds, like Hemingway’s bankrupt character in The Sun Also Rises describing his downfall: “Gradually and then suddenly.”
What is Brent for?
To understand why all this matters, it is worth stepping back to think about what benchmarks are for. They are intended to reflect the price at which the marginal supplier of a given commodity at a given location can find a buyer in the spot market. At a global level they signal when it is profitable to move the commodity to another region. As such they incentivise the efficient flow of goods to where they are most needed, in theory.
From 2007 until May this year, the North Sea benchmark mostly represented the price that a buyer would pay for Forties crude, whether that buyer intended to refine it in Europe or ship it to Asia. That is why it was an effective global benchmark — representing a competitive global market for a North Sea crude.
But with WTI’s inclusion in the Brent basket from May, Brent today mostly represents the price of WTI Midland crude delivered to Rotterdam. It is now a European refining price, not a globally relevant crude export price. Not only does that mean it reflects a more parochial market, it also means Brent is locked into the movement of prices at the source of that flow — WTI Houston at the US Gulf coast, given that WTI sets the benchmark on most days.
The only way is arb.
Volatility between benchmarks is to be expected, even desired — it is the means by which changes in regional fundamentals send a signal to the wider market to adjust flows. Now that volatility between WTI and Brent has been neutralised, traders are looking for new ways to measure the most important crude arbitrage — that between markets west and east of Suez.
For many years the Brent-Dubai EFS, or exchange of Brent futures for Dubai swaps, has been the key west-east market signal. A narrow EFS would encourage Atlantic basin supplies to move to Asia, while a wide spread, with Brent at a strong premium to Dubai, would provide no economic incentive to move those supplies, trapping them west of Suez.
In recent months, the EFS has been narrow, particularly since the inclusion of WTI Midland in Dated Brent, which has driven down Brent prices versus Dubai and other Asian benchmarks. But the most significant west-east flows this year have not been of Brent-linked crudes but of WTI and Urals. One already has its own strong price signal at the US Gulf Coast, WTI Houston, independent of Brent, and the other is being forced east by western embargoes, regardless of the economics.
With Brent now unable to provide a clear signal for Atlantic basin-origin exports, an increasing amount of paper trade is being done on the WTI Houston-Dubai spread, which some traders say now represents the global arbitrage more dynamically than the Brent-Dubai EFS.
Supporters of the Abu Dhabi Murban contract, which represents a lighter crude than Dubai, say that a WTI Houston-Murban spread also has potential as a west-east arbitrage instrument, and activity is gathering pace on that basis.
Anyone seeking to understand whether it is profitable to bring Atlantic basin crudes to Asia, or to balance exposure between markets west and east, will have to take note of these key price relationships.
With Urals now lending its weight to Dubai, rather than Brent, the division of the crude market into two distinct spheres of influence appears to be hardening. Whichever benchmark ultimately succeeds in Asia, it will be measured against WTI at the global level.