Crack spread

From Traderpedia

In the energy markets, a crack spread is the difference between the price of unrefined crude oil and refined products such as petrol, kerosene or diesel.

A strategy used in the commodities markets, the spread is created when purchasing crude oil futures and offsetting the position by selling gasoline and heating oil futures. As the two futures contracts within the spread are relatively similar, risk is hedged against.

The name is derived from the fact that "cracking" oil through the refining process produces gasoline and heating oil. Thus, oil refiners are able to generate residual income by entering into these transactions.

Crack spread jumped from $10 to $40 in one day after Hurricane Katrina. This price spread is normally quoted as the "NYMEX 3-2-1 Crack Spread" and is defined as the price of 2 gasoline and 1 heating oil futures minus 3 crude oil contracts; or 3 barrels of oil will theoretically produce 2 barrels of gasoline and 1 barrel of heating oil/distillate. The value of the spread represents the difference in valuation by the markets and has averaged around $4 prior to the 2005 hurricane season.

NYMEX trades a type of crude called West Texas Intermediate where the IPE trade Brent crude.

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