Source: Katusa Research
On the nightly news, crude oil is referred to as one simple homogeneous product. Anchors say things like, “oil climbed $2 a barrel today” or, “oil plunged 7% today.”
The reality of the oil business is much different. Not all oil is created equal. There are actually dozens of kinds of oil… and small differences in them can make big impacts on the money you make as an oil investor.
If you want to be a successful oil market player, it’s critical to know these differences. For example, smart oil investors might be very happy to sell oil for $40 a barrel… even when the news anchor says oil is trading for $50 a barrel.
Below, I cover why… and explain several other keys to success in the oil and gas market.
***The first factor you need to know about is “heavy” vs. “light” oil.
In preview, light oil is worth more than heavy oil. Here’s why…
The American Petroleum Institute (API) has a scale called the API gravity scale. It measures the density of petroleum. The scale goes from 0 to 75. For reference, water is rated a 10.
If an oil type has an API gravity greater than 10, it will float on water. If an oil type has an API gravity of less than 10, it will sink in water. Any oil with an API gravity below 22 is considered “heavy oil.”
Less dense, or “light oil” has an API gravity of greater than 31. Light oil is preferable to heavy oil because a higher percentage of the hydrocarbons are converted into things like gasoline. That’s why light oil trades at a premium to heavy oil.
The oil that comes out of basins like the Permian and Eagle Ford has an API gravity of approximately 38-42. This means the basins produce valuable “light oil.”
In contrast, oil produced from Canada’s famous Athabasca tar sands has an API gravity of 8. It’s among the world’s heaviest types of crude oil in production. It requires greater amounts of refining than light oil.
Heavy crude is thicker, which means it is more resistant to flow and usually it contains lots of chemicals such as sulfur. Before the refiners can turn the oil into gasoline, they must remove the impurities, which costs time and money. Also, some heavy oil is so thick that it won’t flow through pipelines on its own. A “diluent” must be added to make it transportable via pipelines. This also adds to the cost. It’s another reason why heavy oil trades at a discount to light oil.
For example, on March 1, 2017, Bitumen from the Athabasca tar sands sold for $34 per barrel while the light oil benchmark, West Texas Intermediate crude, sold for $54.50 per barrel.
This isn’t to say you can’t make money in heavy oil. I’ve made great money in heavy oil. But all things being equal, you’d rather produce light oil than heavy oil.