Good article. What's with the huge Brent-WTI differential? Follow the money or take the blue pill.
Many people are puzzled over the Brent-WTI differential, especially those focused on the E&P producers who are 'leaving $20-$30/bbl or more on the table'. I got PO'd because my energy investments were diverging & getting hit last spring (actually starting in March/11). So I dug into it. The more I dug, the worse it smelled. If I can figure it out at least part of it, you can bet that a lot of 'plugged in' people have figured it out already. And it sure as hell isn't the main stream press.
It is 'starting to unravel' because the parts to the puzzle are now starting to fall into public view. Have a peek at this graph showing the multi-year inverse corelation reversal in Feb/11. (From the Sept 8/11 version of eia.gov )
Pre-2008, everyone's grandmother knew the inverse corelation between Cushing storage levels & WTI price. Then more storage capacity was added. Things 'broke' again in Feb/11. Declining Cushing stocks and rising differential? Gotta be Middle East war concerns and a Brent spike, right? Certainly a factor for Brent and much less so for WTI. What else happened in Feb/11?
Now, imagine for a minute that Brent is one of several global prices of 'real' crude and WTI is a 'paper barrel' of crude on the NYMEX. It is almost (not quite) common knowledge that WTI is no longer a 'real crude' which is bought & sold in sufficient quantities to serve as a global 'benchmark'. This is old news. WTI is a 'regional grade comparison', at best.
However, one's thinking much change as well. It is important to truly appreciate that WTI is now the tail, not the dog. As we all know, a dog's tail is meant to be wagged.
IMHO, 'pipeline reversals' are indeed the key to reversing the WTI-Brent differential. It is generally not realised that here is still a lot of crude flowing from the US Gulf Coast to the US mid-west refiners. Two biggies are the Seaway Pipeline to Cushing (nameplate: 350,000~430,000 bbl/day, depending on info source) and the Capline Pipeline System (nameplate: ~1,200,000 bbl/d). Very big numbers that few appreciate. Certainly not explained in the simpleton 'land-locked' analysis news bites.
Basic pipeline background as of 2001:
pipeline101.com
"The Capline Pipeline system is a 631-mile, 40-inch mainline crude oil pipeline originating in St. James, Louisiana, and terminating in Patoka, Illinois."
map:
www-static.shell.com
investing.businessweek.com
The Seaway pipeline is owned 50% by ConocoPhillips & 50% by Enterprise Products Partners. "The Seaway Crude Pipeline System also has a connection to its South Texas System that allows it to receive both onshore and offshore domestic crude oil production from the Texas Gulf Coast area for delivery to Cushing."
Want less background? Try the maps in yesterday's PAA presentation (a small version below): b2i.us
So who would want to buy up to +1.6 million bbl/day of expensive crude at the US Gulf Coast and get it pumped to the US mid-west that (reportedly) has oodles of "land-locked", much cheaper crude? Think about that for a minute. Perhaps think in terms of the customer, a refinery buyer. "How can I buy crude cheaper?" or "How can I create a buyers market?" or "How much 'glut' does it really have to be to drive prices down?"
However, refiners still need physical crude to refine... even mid-west refiners. What happens to the paper equation if 350,000-ish bbl/day flow into the mid-west is reversed with 350,000-ish bbl/day going to the US Gulf Coast.... a huge 700,000-ish bbl/day swing. All of a sudden a "glut" goes to a "deficit" of physical crude to refine. Not getting physical crude to feed your refinery is very disruptive. Sure there is a 'glut' in Cushing but it isn't anywhere near a 700,000 bbl/day glut.
No one said that the Seaway & Capline were flowing at full capacity.
Pure pipeline business models are straightforward: "transport product for a fee". For "integrated pipeline and refiners" can make money on refining, on pipeline transport fees or both. As for "integrated pipeline plus storage and refiners".... well, let's just say there are some 'potential synergies'. For "integrated producers with storage, pipelines and refining capacity", opportunities could get quite significant, especially if held privately.
How about this for some fine speculation:
platts.com
"There's another project that could become logical if all these other projects go through: the reversal of the 350,000 b/d ConocoPhillips 50%-owned Seaway Pipeline, which now runs from the Gulf Coast up to Cushing. (Enterprise Product Partners owns the other 50%). Various statements by COP officials have dismissed the idea of a reversal, including one by CEO James Mulva. The industry consensus is that COP doesn't want a reversal because the Cushing glut provides such fantastic refining margins for the US Midcontinent, where COP has refining assets. (Just because the Cushing market is largely disconnected from the world market doesn't mean that the gasoline produced from it is; products go at world prices, while WTI is depressed by the overhang)."
My personal opinion only and I am just an observer outside the O&G biz:
IMHO, the two root causes of the 2011 spike in Brent-WTI differential are:
1) ConocoPhillips' refusal to reverse the flow of the Seaway Pipeline and
2) the start of flow of the Keystone Phase 2 pipeline into Cushing.
IMHO, the big wild cards are not mid-west refinery turnarounds or XL or rail transport from the Bakken.
IMHO, the wild card to watch: ConocoPhillips reversing the flow of the Seaway pipeline
bloomberg.com
Feb 15/11: "ConocoPhillips isn’t interested in reversing the Seaway pipeline that brings crude from the U.S. Gulf Coast to the fuel hub in Cushing, Oklahoma"
news.guidechem.com
"Also, ConocoPhillips said in April it would consider reversing the Texas-to-Oklahoma flow of its Seaway Pipeline, a 50-50 joint venture with Enterprise."
Really? If the flow of the Seaway was reversed, there would be a massive flushing sound in Cushing directed at ships docked on the US Gulf Coast. Freakin' $80 sweet light in storage commanding a grade premium to Brent when it gets waterborne? This would be Viagra for arbitragers.
The Middle East conflicts have disrupted global supplies and created tightness particularly in Europe and US East Coast. In fact, so tight that both the IEA & US gov't released SPR barrels. Yet the US Gulf Coast with it's ~3.7 million bbl/day refining capacity remained well supplied.
Heresy? You want data? Only refineries well-supplied with lower cost feedstock can displace refined product imports and actually export product.
eia.gov
U.S. exports of petroleum products increase as markets become more globally integrated
"From 2000 through 2009, motor gasoline exports were generally 1% - 2% of motor gasoline product supplied (a proxy for demand). From 2010 to mid-2011, they have averaged close to 4%, reaching a high in December 2010 of 5.8%. Distillate exports, which include diesel fuels and fuel oils, represent a more significant share of total available product. From 2000 to 2008, distillate exports were less than 10% of distillate product supplied in all but two months. From the beginning of 2009 to mid-2011, distillate exports were more than 10% of distillate product supplied."
A prettier graph:
Do you really think the refiners exporting product are refining Brent? Where did the $2 gasoline go? Diesel to Europe? Sure. Minnesota? Nope.
kfgo.com
"Fuel Shortage Hits Dakotas, Minnesota
September 15, 2011
FARGO - A critical shortage of gasoline and diesel fuel is showing no signs of improving. North Dakota Petroleum Marketers Association Executive Director Mike Rud says with the harvest getting underway and a huge demand for diesel, supplies are short.
Rud says he and other industry representatives are working with the governor's office, trying to find ways to get more fuel into North Dakota from refineries in other parts of the country. Minnesota, South Dakota and Iowa are also experiencing fuel supply shortages."
Might one suspect: "Same guys & flip side of the same game?" Go to wiki & get a list of refiners by state.
But what is happening lately with the Seaway & Capline:
Oh dear, the Capline seems to be running at low flow... really low flow... and has been low for a while:
platts.com
"Platts' Esa Ramasamy dug up the statistic that Capline operated at only 15.6% of capacity in the first half of the year. That was down almost 8 percentage points from the first half of last year."
Hmmmm.... 15.6% x 1.2 million bpd= 187,000 bbl/day in 1st half of 2011 through a ~1,200,000 bbl/day pipe?
And that is down from only 24% capacity in the 1st half of 2010?
It also might appear that the serious cracks (pun intended) are starting to appear in Seaway crude flows:
seekingalpha.com
"Equity earnings from our investment in Seaway decreased $5.2 million
quarter-to-quarter primarily due to lower volumes delivered to Cushing, Oklahoma
from the Texas Gulf Coast during the second quarter of 2011 compared to the
second quarter of 2010. Net to our interest, throughput volumes on the Seaway
pipeline system decreased 97 MBPD quarter-to-quarter."
Hmmm... 50% ownership of 350kbpd/430kbpd= 175,000/215,000 bbl/day capacity & down 97,000 bbl/day in Q1/11. That'd be half capacity at best. Gee, not much flow left going north.
So two major US Gulf Coast to US Mid-West pipelines with combined capacity of ~1,600,000 bbl/day are flowing a piddly ~250,000-ish bbl/day northward from the US Gulf Coast. Why did the flows on the Capline get 'hit' first? Simple. Growing Cdn production targeted flow towards Chicago, not Cushing. That is where the refiners are.
Then, of course, the new TCPL Keystone Phase 2 screwed this up in Feb/11. The well managed Brent-WTI differential started to really get out of hand.... storage or no freakin' storage at Cushing. TCPL Keystone Phase 2 is another big pipe:
transcanada.com
"Keystone Cushing Extension (Phase II) is an approximate 480-kilometre (298-mile) extension of the Keystone Pipeline from Steele City, Nebraska to Cushing, Oklahoma. The 36-inch pipeline commenced commercial operation in February 2011, extending Keystone Phase I to storage and distribution facilities at Cushing, a major crude oil marketing/refining and pipeline hub."
transcanada.com
"The first leg of the Keystone Pipeline from Hardisty, Alberta to Wood River / Patoka, Illinois has throughput capacity of 435,000 barrels per day. Phase II of the project to Cushing will be completed in late 2010 and increase capacity to 591,000 barrels per day. The Gulf Coast Expansion will add an additional 500,000 barrels per day in late 2012. When completed, the expansion will increase the commercial design of the Keystone Pipeline system from 590,000 barrels per day to approximately 1.1 million barrels per day."
transcanada.com
If this is all true and verified by those with real data and solid information, IMHO, ConocoPhillips runs the risk of being cast as 'the Evil Bastard' screwing both the US public and the PADD IV+Cdn producers by creating an artificial oversupply of crude at Cushing. The Koch empire, also a potent force in the region, runs under the radar without "public corporation" level disclosure, doesn't own half of the Seaway Pipeline and seems to play more in the heavy crude side. The heavy crude side is a different game entirely from the Brent-WTI game.
So what is next? IMHO, very simple:
1) Seaway pumps more LLS into Cushing & the WTI discount to LLS gets wider.
2) Seaway pumps less LLS into Cushing & the WTI discount to LLS gets narrower.
3) Rinse, repeat
IMHO, producer equities will follow WTI. Duh.
Up and down, up and down. So simple even a paper barrel trader can do it.
IMHO, producers that get really do get prices close to LLS or Brent should track Brent but won't. When the stars align, there will be some serious bargains around. Get your shopping list ready.
The cynic in me says a future 'chess move' (i.e strategic) would be to drive down the Brent-WTI differential during the approval stage of the Northern Gateway pipeline. But not just yet. Gotta milk this economic downturn to buy cheap assets.
What's with the huge Brent-WTI differential? IMHO, follow the money or take the blue pill.
Ray |
