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Did U.S. Oil Break the World's Oil Benchmark?

By Reuben Gregg Brewer - Mar 17, 2014 at 10:50AM

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The Brent Crude benchmark looks like it needs an overhaul, and the U.S. oil resurgence is playing a big part in that—consider buying in to this benchmark breaking region.

Oil is a globally traded commodity and Brent Crude is its benchmark. That's worked out well for decades, but new sources of supply and dwindling output from the North Sea are combining to make Brent a less valuable yard stick. The U.S. is a key factor in this dislocation.

Ups and downs
The Brent Crude benchmark is based on pricing for North Sea oil. Only output from the region is falling, increasing the importance of other areas. For example, some in the industry are calling for the inclusion of oil from Russia and West Africa, among others. The biggest risk of inaction is price manipulation, something that's already being investigated by European authorities.

Adding U.S. oil is another possible expansion of the benchmark. That's notable because the U.S. Energy Information Administration highlights increased U.S. output as one of the reason that Brent Crude traded in its narrowest range since 2006. Although there are material limits on oil exports in the United States, increased U.S. production, "helped offset some of the losses of oil on world markets, resulting in supply being more in line with market expectations." And, thus, prices were more stable.

That's possible because the United States has historically been a big importer of foreign oil. However, as more oil is found domestically, less foreign oil is needed. That leaves more oil for everyone else. This shift is highlighted by changes at large oil companies like ExxonMobil ( XOM 1.60% ) and Chevron ( CVX 0.59% ).

These international oil giants have operations around the world, not just in the U.S. market. As less oil is directed to the U.S. market, they have shifted their businesses to supply more oil to other parts of the globe. For example, Chevron gets about a quarter of its oil from Asian assets. That's a big growth region. It's also why Exxon is working on new projects in places like China, Vietnam, Indonesia, and Australia. These companies are going where the demand is.

Going local
So buying a giant like Exxon or Chevron is one way to get exposure to U.S. and global oil markets—and they'll do just fine no matter what happens to the Brent Crude benchmark. However, there's also the option of buying American and benefiting from the other side of the equation—offsetting imported oil. For example, Linn Energy ( LINEQ ) and Vanguard Natural Resources (NASDAQ: VNR) are two high-yielding limited partnerships focused on U.S. drilling.

(Source: Bmpeters, via Wikimedia Commons)

Both have grown through acquisition, targeting relatively mature oil and natural gas fields. Such properties have more predictable production profiles. Moreover, drilling new wells in mature areas tends to be less risky.

The big opportunity right now, however, is related to last year's concerns about Linn Energy's business model. That issue appears to have passed, but both Linn and Vanguard still sport yields in the 8% and 9% range.

If owning an LP isn't to your liking, then you might consider a largely domestic oil player like Occidental Petroleum ( OXY -0.61% ). Like Exxon and Chevron, Occidental has operations around the world, but about 60% of its production is located in the U.S. market. In fact, three of its four "focus areas" are in the United States.

Although Occidental's 3% dividend yield is much lower than Linn or Vanguard, it's in-line with those of Chevron and Exxon. The big difference between these giant's and Occidental is Occidental's focus on the U.S. market.

Breaking bad
The questions surrounding the validity of the Brent Crude benchmark are a statement about the changing oil landscape. The U.S. oil and gas boom will be a big part of the evolving picture. You can hedge your bets by purchasing giant oil companies that can shift production on a global scale, like Exxon and Chevron. Or you can jump into U.S. focused drillers, like Linn, Vanguard, and Occidental, that are helping to change the oil world as we know it.

The U.S. energy boom is bigger than just this one benchmark...

This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium advisory service. We’re motley! Questioning an investing thesis – even one of our own – helps us all think critically about investing and make decisions that help us become smarter, happier, and richer.

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Stocks Mentioned

Exxon Mobil Corporation Stock Quote
Exxon Mobil Corporation
XOM
$60.80 (1.60%) $0.96
Chevron Corporation Stock Quote
Chevron Corporation
CVX
$113.54 (0.59%) $0.67
Linn Energy, LLC Stock Quote
Linn Energy, LLC
LINEQ
Occidental Petroleum Corporation Stock Quote
Occidental Petroleum Corporation
OXY
$29.47 (-0.61%) $0.18

*Average returns of all recommendations since inception. Cost basis and return based on previous market day close.

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