Deutsche Bank: Pipelines explain WTI discount to Brent

Marilyn Radler
OGJ Senior Editor-Economics

HOUSTON, Feb. 16 -- Increased pipeline capacity to bring crude oil to Cushing, Okla., has resulted in more oil flowing into PADD 2 than the refinery system there can handle, and therefore the landlocked crude is trading at a persistently wide discount to comparable global crudes, according to a research note released this week by Deutsche Bank Securities Inc.

The current Brent-West Texas Intermediate spread is about $15/bbl. And although the spread corrects over the life of the futures curve, the price of WTI crude has moved structurally to a discount to Brent crude in a reversal of the historic premium that WTI has enjoyed, Deutsche Bank analysts Paul Sankey, David T. Clark, CFA, and Silvio Micheloto, CFA said.

The report says that since Western Canadian oil production has risen to 2.9 million b/d in 2010 from 2.2 million b/d in 2005 and will likely climb to 3.1 million b/d by 2013, and with only Kinder Morgan’s TransMountain pipeline able to transport oil to the West Coast, the vast majority of this production is landlocked. Increasing amounts of this crude as well as rising production volumes from the Bakken shale are being forced by pipeline into the US Midwest, with much of it landing in Cushing and adding pressure on PADD 2. Refineries there are enjoying the crude-cost advantage with the record price spread between Brent and WTI, while Gulf Coast refiners are exposed to more expensive crudes.

Two major trunklines have added a combined 1 million b/d of capacity from Alberta to the US Midwest. Completed last year, Enbridge’s Alberta Clipper line runs at 450,000 b/d capacity, and TransCanada’s Keystone pipeline can carry 591,000 b/d of Western Canadian crude to Cushing.

There are only two ways to relieve the pressure on WTI at Cushing, Deutsche Bank said: much stronger demand or more transport capacity out of Cushing. While the former is possible in an improving economy, it is unlikely to push the price of WTI back in line with Brent and other global crudes. Deutsche Bank believes the more likely pressure relief should come from additions to pipeline capacity.

The Keystone XL lines—one to Cushing from Hardesty, Alba., and one to the Gulf Coast from Cushing—are scheduled to start up in 2013, pending approval, with 700,000 b/d of capacity potentially expandable to 900,000 b/d. Deutsche Bank believes that despite environmental opposition, Keystone XL will be granted its permit from the US Department of State, although startup could easily be delayed until 2014.

With the current Brent-WTI spread, other potential projects to take oil to the Gulf Coast from Cushing could be pushed forward, the analysts said. These include the potential reversal of the Seaway crude line that runs between Freeport, Tex., and Cushing. Nameplate capacity of Seaway is 350,000 b/d, but apparent capacity when running heavy crudes to the Gulf would be 200,000 b/d, according to the report.

Enbridge’s proposed Monarch project, which would move crude to Houston from Cushing, is another possibility to relieve pressure on PADD 2. Monarch would have a light oil capacity of 370,000 b/d, expandable to 480,000 b/d, with a possible completion date of 2014, Deutsche Bank said.

There are multiple proposed pipeline projects that could take Western Canadian oil to the west coast for export to Asia or California, but all are either on hold or delayed due to opposition to licensing. These include Kinder Morgan’s TMX-1 expansions, Kinder Morgan’s North Leg, and Enbridge’s Northern Gateway projects. Deutsche Bank said that none of these are likely to be built before the last few years of this decade.

“The net effect has been a blow out in the differential between global crudes and WTI. We argue that Brent is the more representative crude. Although supply issues have affected that price to the upside, we believe that it is primarily global demand strength that has driven Brent to over $103/bbl, with less widening of differentials between that crude grade and other internationally traded grades,” the report said.

Contact Marilyn Radler at marilynr@ogjonline.com.

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