What it means
Crude oil is not one uniform product. It varies in density, which is how light or heavy it is, and in sulphur content, which is how sweet or sour it is.
The term "sweet" originally came from the fact that oil with little hydrogen sulphide had a less unpleasant smell. Sulphur matters because it must be removed before fuel can be sold.
Refining sour crude needs extra equipment and energy, and the sulphur that is removed becomes a by-product with a limited market. Sweet crude skips much of that work, which lowers the refiner's costs and reduces corrosion in the equipment.
Because of these savings, sweet crude usually commands a premium to sour crude, and the size of the gap changes with market conditions. When regulations demand cleaner fuels, the premium tends to widen, since low-sulphur output is worth more.
When refineries have invested heavily in sulphur-removal units, they can use cheaper sour crude and the premium narrows. For businesses outside the oil industry, the term shows up in fuel cost forecasts, airline and shipping budgets, and the earnings of energy companies.
Crude is traded in standard grades, and two widely used benchmarks, West Texas Intermediate and Brent, are generally described as light and sweet. Prices for other grades are quoted as a premium or discount to those benchmarks.
Light and sweet often go together but are not the same thing. A crude can be light yet sour, or heavy yet sweet, so buyers check both numbers.
Contracts usually state the sulphur limit explicitly, and a cargo that tests above it can be rejected or sold at a penalty. Geography and logistics also play a part in how the sweet premium shows up in the accounts.
A cargo of sweet crude that has to be shipped a long way carries freight and insurance costs that can offset some of its quality advantage. Producers, traders and refiners therefore quote a delivered price that includes transport, and the finance team compares grades on that basis rather than on the headline barrel price alone.
In practice
Real-world examples.
Example
A refinery that lacks desulphurisation units buys only sweet crude to avoid costly upgrades. Its margins are sensitive to the premium it pays, so its planning team tracks the sweet-sour gap every week.
Example
An airline's treasury team builds next year's fuel budget from the benchmark sweet crude price and then adds a refining margin. They test the budget at $10 above and below the benchmark to see the effect on profit.
Example
A trading firm buys a cargo of sour crude at a discount and sells it to a refinery equipped to handle it. The profit comes from the gap between the price paid and the price received after allowing for shipping costs.
Formula
Calculation
Quality differential = Sweet crude price - Sour crude price
Premium % = Quality differential / Sweet crude price
Suppose sweet crude sells at $80 per barrel and sour crude at $74 per barrel.
Quality differential = $80 - $74 = $6 per barrel
Premium % = $6 / $80 = 0.075, or 7.5%
A refinery processing 100,000 barrels a day would pay $6 x 100,000 = $600,000 a day more for sweet crude than for sour. Over a year of 365 days that is $600,000 x 365 = $219,000,000, which is why refiners with sulphur-removal equipment can earn a lot by buying sour crude.Case study
Seen in the real world.
Dunmore Refining is an illustrative, fictional company operating a mid-sized refinery. Its management was considering whether to invest $90,000,000 in sulphur-removal units that would let it buy cheaper sour crude.
At the time the sweet-sour discount averaged $6 per barrel and the plant processed 50,000 barrels a day. The savings were $6 x 50,000 = $300,000 a day, or about $109,500,000 a year if the gap stayed the same.
In the illustrative analysis the board noted that the discount could shrink, so it modelled a case with a $2 gap, giving savings of about $36,500,000 a year. Even then the project paid back in under three years, and the board approved it. Management also agreed to review the sweet-sour gap every quarter and to pause purchases of the cheapest sour grades if the discount fell below a floor set by the board.
Watch out
Common mistakes.
- Assuming sweet means light, when the two describe different properties of crude oil.
- Thinking the sweet premium is fixed, when it moves with fuel regulations and refinery capacity.
- Believing that sweet crude is always better for every buyer, when a refinery equipped for sour crude can profit from the cheaper grade.
Questions
People also ask.
What makes crude oil sweet?
A low sulphur content, generally below about 0.5%, while higher levels are described as sour.
Why does sweet crude cost more?
Because it needs less processing to meet fuel standards, so refiners will pay more for it.
Which benchmarks are sweet?
West Texas Intermediate and Brent are generally described as light and sweet and are used to price many other grades.
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