Analysis: Brent gains ground in oil benchmark battle

By Alejandro Barbajosa and Florence Tan

SINGAPORE (Reuters) – From Kuala Lumpur to Atlanta, Brent crude is gaining momentum as the global oil pricing reference of choice for producers and consumers, bolstering the Intercontinental Exchange in a battle of benchmarks for the world’s most widely traded commodity.

Three months after a blowout in the premium for ICE’s European Brent crude futures over the New York Mercantile Exchange’s West Texas Intermediate (WTI) contract stoked speculation about a shift in liquidity, changes in the way companies hedge have emerged in both the East and the West.

Malaysia’s Petronas this week dropped national crude Tapis as the benchmark for its exports in favor of ICE-related dated Brent. The move dealt a blow to the Dubai Mercantile Exchange (DME), part owned by NYMEX, which has pushed its Oman crude contract as a replacement.

Two weeks earlier, Atlanta-based Delta Air Lines announced it had swapped out its previous jet fuel hedges based on the WTI contract in favor of Brent, which has more closely reflected global gasoline and jet fuel price moves than the U.S. marker.

Trading volume — a measure of a contract’s health and liquidity — tilted toward Brent, although the trend was masked by a slowdown in activity at the end of the first quarter.

In the past 20 days, daily turnover in NYMEX crude futures exceeded that of ICE Brent futures by about 165,000 lots, the lowest figure since 2006. On Tuesday, ICE Brent traded more than NYMEX for only the ninth time since 2004, according to Reuters data from the exchanges.

If more Asian producers opt to swap the region’s current benchmarks — mostly viewed as dysfunctional — for Brent, the balance in the war for benchmark supremacy could swing more in ICE’s favor. “It seems to be part of a trend,” said Mike Wittner, Americas head of commodities research at Societe Generale.

“More and more physical oil market participants, whether they are producers, consumers or refiners, are looking at Brent as perhaps more appropriate to manage their risk.”

TWO-TIERED MARKET

It is too early to say whether volumes have been permanently sapped from WTI. In January and February, as global traders hit the panic button over unrest and war in Libya, WTI had some of its best days ever, several times exceeding Brent volume by more than 500,000 lots. But that changed dramatically as the quarter wound down.

“We have seen Brent volumes surge in the past and even exceed WTI from time to time, only to slip back again,” said Olivier Jakob, managing director of consultants Petromatrix in Zug, Switzerland.

“There has been a lot of debate about which contract is more representative of the international oil market and that will continue.”

WTI has sunk to record discounts against Brent, fuelling a discussion on whether Brent better reflects global fundamentals and the turmoil in the Middle East and North Africa.

Brent was trading around a 32-month high above $124 on Friday, with WTI around $112.

At the beginning of March, NYMEX started offering traders the ability to hedge U.S. oil product futures RBOB gasoline and heating oil against Brent on its exchange.

Some say the strategic glut in landlocked U.S. crude has caused the NYMEX market to lose its link with global fundamentals. The disruption in Libyan exports as the country fights a civil war has clearly affected Brent most heavily.

But the long-term cause for Brent’s ascent is perhaps further east, where soaring demand from Asia is lifting requirements of Middle East, Mediterranean and West African crude, mostly priced in relation to the European marker.

Investors are helping Brent consolidate as a cross-continent marker for at least 70 percent of internationally traded crude because the structure of the ICE forward curve yields positive returns when rolling over positions every month, while for WTI the roll-over comes at a loss.

“Recently, one of the smartest ideas to enhance index return was to switch WTI for Brent,” Goldman Sachs managing director for fixed income, currency and commodities Arun Assumall told Reuters in Singapore. “Many investors would prefer to be exposed to a more global oil price, such as Brent.”

THE ASIAN GAME

Malaysia’s move to Brent may prompt other Asian producers to follow, including Vietnam and Indonesia, entrenching Brent’s influence in the region and dampening efforts by the DME to draw Middle Eastern producers toward its Oman futures and away from Platts’ Dubai/Oman assessments.

Still, Malaysia’s crude is light and sweet, while much of the exports from the Middle East which the DME is eyeing are heavier and more sour. That may mean there is enough space for different markers to gain ground for the different grades.

Brent is gaining favor as a benchmark for sweet crude in Southeast Asia, but how attractive it would be to price sour Middle East grades is another matter, said John Vautrain, director at Purvin & Gertz energy consultants in Singapore.

Malaysia’s move to Brent “illustrates the need and importance of reviewing pricing mechanisms used in East of Suez markets,” the DME said in response to e-mailed questions.

“The current Dubai price assessment used for the majority of Middle Eastern crude exports into Asia suffers from a number of similar problems as Tapis as a benchmark,” the DME said. The Dubai-based exchange said its Oman contract was the “most appropriate” marker.

The wave of unrest sweeping the Middle East this year also raises new challenges for Oman as concerns grow the country’s oil output may be disrupted. Pricing agency Platts is accelerating talks with customers to find alternative crudes for delivery against its Oman benchmark, used to price more than 10 million barrels per day.

“Any event that adds urgency may play against the efforts of Oman proponents by providing them less time and a more stressful environment in which to make their case,” said Vautrain.

(Additional reporting by David Sheppard and Jeffrey Kerr in New York and Christopher Johnson in London; Editing by,)

Analysis: Brent gains ground in oil benchmark battle