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One of the spreads which I always follow with great interest and that provides good trading opportunities every year is CL-B, that is, WTI crude oil - Brent crude. Crude oil is one of the most highly traded commodities in the world and a major source of the global energy supply.
When it comes to physical oil, there are different grades. The most heavily traded grades are Brent North Sea crude (commonly known as "Brent crude") and WTI (West Texas Intermediate). Brent is oil that is produced in the Brent oil fields and other sites in the North Sea.
Brent crude oil futures trade on the Intercontinental Exchange (ICE) and its price is the benchmark for African, European, and Middle Eastern crude oil. The pricing mechanism for Brent dictates the value of roughly two-thirds of the world's crude oil production.
The NYMEX (New York Mercantile Exchange) division of the CME (Chicago Mercantile Exchange) lists futures contracts of WTI crude oil. Delivery for WTI crude futures occurs in Cushing, Oklahoma. WTI is the benchmark crude for North America.
After this brief introduction, I will show you the continuous price chart of the last 10 years of the spread.
Over the last 10 years, with the exception of last spring when there was the collapse of WTI with the price also going negative, the spread has moved between 0 and -20 most of the time. The chart does not really tell us much. In fact, the price of the two futures must be taken into account.
Theoretically, the higher the price of the two futures, the higher the spread should also be. In reality, it is not always therefore and these are the occasions that we can exploit to our advantage. Below I show you two more charts, they are the continuous histogram of the spread at the beginning of October 2018, the last period that the crude oil futures (both, WTI and Brent) quoted at approximately the current prices, and the current one.
If you read the column values, you can see quite a difference. On October 3, 2018, the CL1-B1 spread (the continuous) was in the -$ 10.3 column. To be precise, the spread was -$ 9.88 (WTI $ 76.41 and Brent $ 88.29). The current spread (Friday 18 June 2021) is in the column -$ 1.5 (to be precise the spread is -$ 2.08).
If you also take other periods with the price of WTI crude oil at or near current levels you can see a much bigger difference between the futures of the two types of crude oil than at present. Even in April 2019, with WTI just above $ 60 a barrel, there was a spread of around -$ 9.
So, do not be fooled by the fact that the spread is in the pink zone of the 25th-75th percentile range; with the current prices of WTI and Brent, the spread must be wider.
At this point, how can we exploit this on a practical level? Since the continuous chart is certainly useful in our analysis but we cannot trade it, we need to construct a spread by carefully choosing the two futures deliveries.
The spread should not have the first delivery too close (we would have too short a period to put the trade to good use), but neither should it be too far away (the futures would be less liquid and less responsive to price changes). After a not too long analysis, I went to the CLV21-BX21 spread, that is, I took the October delivery of WTI and the November delivery of Brent. This way we can keep the position open at most until about mid-September (three months).
Below, you can see the chart with the 5- and 15-year seasonal patterns.
The spread is obviously to be sold, as we speculate on an increase in the difference between the two futures. Although the purpose of the trade does not concern seasonality, you can nevertheless see that the two seasonal patterns are bearish (especially the one at 15-year).
Doing a graphical analysis makes little sense. As already mentioned, the width of the spread depends above all on the price of the futures. The higher they are, the wider the spread in theory. So, I do not find it useful, for example, to compare the current spread with previous spreads (Seasonality Stacked) unless you choose one or more spreads precisely on the basis of price.
Below, in this sense, you can see the Seasonality Stacked chart with only the current and 2018 spreads.
The chart confirms that, with futures at roughly the same levels, the current spread is much tighter than in 2018. Here ends my analysis, now it is up to you to choose, through your subjective probability, the entry-level and all the other parameters.
One of the spreads which I always follow with great interest and that provides good trading opportunities every year is CL-B, that is, WTI crude oil – Brent crude. Crude oil is one of the most highly traded
I am a macroeconomic and financial analyst with over 30 years’ experience, including two years as a fund manager. I specialise in currencies and commodities, and I am the author of several successful books on trading, macroeconomics, and financial markets.
3 Comments
Hello David, thanks a lot for your nice suggestion. I haven´t understood anyway the following point: “So, I do not find it useful, for example, to compare the current spread with previous spreads” Why? Is it not what are you doing anyway? Thanks.
Hi Gherardo,
yes partly I did but first I went to check the situation in the past (but only for 2018) when the futures were around the current prices. I mean I don’t find it useful to simply compare the current chart with past charts as I do in normal analysis. If I did so I wouldn’t open any trades and the spread would be judged to be at a normal price (which it is not). A new detail comes into play here: knowing the past prices of individual futures when we make the comparison. This is because the higher the price of the futures the greater the spread can be. A spread of -$9 is quite normal with WTI at $90, but it’s impossible (or at least it would be a big anomaly) if WTI is at $20. So if you don’t know the price of the two futures in each of the past years, it’s useless to compare the charts because what you get is worthless because an important benchmark is missing. I hope I have been clear in my explanation.
Have a nice day!
David
Dear David, thanks a lot for your nice explanation. I got the point. Let’s see what happens.. 🙂
Have a nice day. Bye.