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THIS WEEK'S TOPIC:
MONT BELVIEU, CONWAY PRICE SPREAD
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Price spread patterns suggest tightening of US hubs in August
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In recent weeks, there has been a sharp rise in Midwest propane inventory levels.
Earlier in the year, Midwest inventory was running lower than last year, even though Mont Belvieu inventory was well above its value from last year. That fact had Conway and Mont Belvieu propane trading fairly close in value. However, the recent rapid rise in Midwest inventory caused the value spread between the two U.S. hubs to diverge.
The chart above shows the price spread between Mont Belvieu and Conway over the last two years, along with the five-year average spread. Any value above zero means Mont Belvieu holds the premium or has higher value. More recently, the value between the two hubs has been closer together, as evidenced by both 2015 and 2016 running mostly under the five-year average.
In April of this year, the spread dropped to under 2 cents with the inventory imbalance between the Midwest and Gulf Coast, where Gulf Coast inventory was running much more above normal than Midwest inventory. But with the recent builds in Midwest inventory, the spread mushroomed to 6 cents.
There was a similar expansion of the price spread in June and July 2015. But in August 2015, the spread collapsed, and by that September, Conway was once again at less than a 2-cent discount to Mont Belvieu. Interestingly, the five-year average also shows the tightening spread in August.
Of course, there is no guarantee that the same pricing pattern will develop for 2016. However, Conway buyers should be aware of the potential for Conway propane prices to improve in relative value to Mont Belvieu.
(continued below)
As a pure trading play, some may try to take advantage of the trend in the Mont Belvieu and Conway spread. When playing a spread, the trader does not care about overall price direction. The play is that whether prices rise or fall, Conway’s value will get closer to Mont Belvieu’s value. If that happens, the spread play pays for its holder.
In a recent issue of Trader’s Corner, we discussed both buying and selling swaps. Swaps are bought on the expectation that prices will rise. Swaps are sold on the expectation that prices will lower. In this spread, a trader would sell Mont Belvieu propane and buy Conway propane. A trader sells what is perceived to be overvalued and buys what is perceived to be undervalued.
Of course, spread plays are always made against two commodities. It could be Mont Belvieu propane against West Texas Intermediate (WTI) crude. It could be Brent crude against WTI crude. It could be heating oil against gasoline. The key is knowing the historical value relationship between the two commodities and recognizing when the value spread has gotten outside its normal range, or knowing a seasonal pattern for the spread.
Again, the real beauty of a spread play is that the trader does not have to predict price direction. Prices of both commodities could either go up or down. As long as the spread between the two commodities gets closer together, the spread player wins.
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Cost Management Solutions LLC (CMS) is a firm dedicated to the analysis of the energy markets for the propane marketplace. Since we are not a supplier of propane, you can be assured our focus is to provide an unbiased analysis.
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