The NYMEX has been working on plans for a “sour” contract for years, going so far as to build an entire exchange in Dubai to host the new product. The NYMEX contract will be physically settled: traders who hold a contract to maturity will take delivery of Omani crude, the same way holders of a WTI crude oil contract in the U.S. do with WTI oil.
To the surprise and certainly the dismay of NYMEX, ICE swooped into the market recently and announced plans for a cash-settled sour contract, which will trade on its popular electronic exchange system. In fact, it looks like ICE will beat NYMEX to market by about one week, giving it first mover advantage in the space. Traders aren’t leaning one way or the other on which contract will attract the most attention, but being first-to-market will certainly help.
Why is sour crude looking so sweet for traders right now?
In oil, as in strawberries, sweeter is better. Sour crude is packed with extra sulfur, and takes extra processing to turn into the petroproducts we know and love: gasoline, heating oil, jet fuel, etc. The world’s two major oil futures contracts – for Brent Crude and West Texas Intermediate [WTI] crude – both cover “sweet” grades of oil. But much of the world’s oil is sour, including the vast majority of oil from the Middle East. With demand for Middle Eastern crude rising, particularly in Asia, the world seems overdue for a sour crude futures contract. In fact, as the economic poll of the world shifts steadily towards the East, many believe that sour crude will come to be more important than sweet varieties, which are more popular in the U.S. and Europe. With the ongoing problems with the WTI contract, that transition may be accelerated. (That’s not to say that the WTI contract is going anywhere; rather, it means that there is an opening for a sour crude contract to gain a very real footing in the marketplace.)
Today, the sweet crude hegemony in the futures market means that traders aren’t able to easily hedge and arbitrage the value of sweet grades of oil against the sour stuff. That should change once the sour contract is launched, and chances are, the spread between the two will narrow slightly as a result.