Russian Urals crude oil

The Russian Urals grade of crude oil, relative to Brent (the international benchmark), has dropped by nearly $30 since the invasion of Ukraine, only exacerbated by the onset of sanctions. Although energy payments haven't been sanctioned yet, given the West's dependence on Russian commodities, it hasn't stopped buyers from pulling out and seeking alternatives.

Urals-Brent price difference

For Russia, this means it is making less per barrel of oil it exports. But for other countries, it's a bargain. India, the third largest oil consuming nation, is an example. And now India's central bank is in talks with Moscow on a rupee-ruble trade agreement. Should other countries who remain tied to Russian exports do the same, this spread will be worth watching. 

Vladimir Putin and Narendra Modi in New Delhi in December 2021.

Brent crude's open interest lowest since 2015

The oil market has been extremely volatile as it faces a liquidity crunch and geopolitical tensions on multiple fronts. For investors, higher prices isn't always a good thing. Big swings mean fewer people wanting to trade it. That's best exemplified in this chart, which shows Brent crude's open interest is at its lowest since 2015.

 

Brent crude's open interest is at its lowest since 2015 

Arguably the more notable trend is that there's been a decline in open interest throughout 2021 as oil prices rose. There are two reasons for that. The first is higher margins, otherwise known as the cost of trading oil. Given that cost is linked to volatility, it's effectively been getting more expensive to hold the same number of contracts.

The second reason for the decline is dropping inventories. Traders that hold supply in oil tankers hedge using futures contracts. So when those tanker-held inventories fall, so does open interest. All in all, it means fewer people want to trade oil. Add on bigger swings and spreads, and it creates a very illiquid trading environment.

West Texas Intermediate and Brent crude oil

The spread between West Texas Intermediate and Brent crude has widened to around $3.50. The divergence is crucial because WTI’s discount to Brent can shift trade balances. When the spread hits $4, that typically makes the U.S. benchmark too cheap for international refiners to ignore and covers the cost of overseas transportation and storage. At the same time, American refiners tend to stop buying international crude, and the EIA can draw on its inventories.

All of this can shift trade balance dynamics at a time when U.S. exports have slowed. This move is happening as traders price in a premium for Brent due to Russia-related risk as preparations ramp up for a possible Russian invasion of Ukraine. The spread previously widened in August thanks to an improving global virus situation and increasing Chinese demand. That placed international benchmarks at a premium, only to reverse in light of European energy issues.