Canada needs new pipelines, as widening crude oil price differentials demonstrate

Pipeline opponents claim no new pipelines required, but market punishes Canadian producers with lower prices due to constrained shipping capacity

Will the recent widening of the differential between Western Canadian Select and US benchmark West Texas Intermediate prices, which stood at over $34CDN Wednesday, finally put to rest the patently false narrative that the Alberta-based oil industry doesn’t need new pipelines?

It should, but almost certainly won’t, unfortunately.

To put the differential in perspective, WTI was selling for $73.86CDN ($58.02USD) at Cushing, while Canadian producers received just $40.07CDN.  Alberta Energy pegged the differential at $17.19CDN ($13.50USD) in 2016 and expected it to remain around that level for 2017, even though it narrowed to around $12CDN ($9.40USD) in the spring of this year, before widening in the fall and then skyrocketing in Nov. after a 5,000 barrel release shut down the Keystone pipeline, which transports almost 600,000 b/d from Alberta to American markets.

Kevin Birn, director for IHS Energy.

That discount is the consequence of the difficulty Canadians are having getting their crude oil to market and the losses are piling up for oil companies and governments, according to Kevin Birn, director of the IHS MarkIt Oil Sands Dialogue.

“We estimate economic losses, so far, when differentials in the range of about $25USD against WTI, of over $20USD million a day,” he said in an interview.

“This goes to underscore the importance of infrastructure to Western Canada, and Canadians as a whole, because we’re talking about net losses to producers, royalties the Alberta and Saskatchewan governments are collecting, and taxes that governments collect from companies.”

A new RBC report released last week argues that oil sands producers will suffer even steeper discounts in 2018 because growing production “materially exceeds” export pipeline capacity to the United States, as reported by the Canadian Press.

According to Birn, crude oil prices in Western Canada are set by the cost of transportation to market in the United States. If pipeline capacity is constrained because of outages or rapidly growing oil supply, prices drop.

Industry had expected to shift some of its growing supply to rail transport, which is two to three dollars a barrel more expensive then pipeline tolls, but recent disruptions to Canadian National Railway’s system have left railroads short of shipping capacity.

To make matters even worse, new pipeline approvals over the past few years have made producers reluctant to sign up for long-term rail service.

“You may not see a lot of people committing on rail right now and that’s causing the differentials to blow out,” Genscape Inc. analyst Mike Walls told the Globe and Mail.

oil storage
Oil storage tanks.

Birn says that in the short-term, oil companies may soon have to pay even more to ship their crude oil from Alberta, where storage facilities are rapidly filling up.

“We think the differentials at this point have reached the point where you can start manifesting it out. That means, load it on any available car train leaving the province just to get it out,” he said.

“But we don’t think it’ll come to the point that people will shut in.”

The open question, he notes, is whether producers are “permanently on rail” and stuck with the added costs rather than using rail as a flexible to manage temporary shipping bottlenecks and take advantage of market opportunities.

“You can see producers locking in longer-term contracts with rail at this point to ensure that they don’t have to endure another wide differential like this,” he said.

“Crude by rail could persist at higher levels going forward into 2018, much like we anticipated, much like the industry anticipated, just starting a little bit sooner than many had planned.”

Birn says anecdotal evidence from the past few days suggest that some producers are panicking because their storage tanks are full and they may not be able to negotiate transportation this close to the holidays.

This is the reality faced by the Canadian oil industry: lower prices for their product even as international markets re-balance and benchmark grades like WTI and Brent continue to edge upward.

Yes,there is a veritable pipeline full of studies from opponents that purport to demonstrate why Canada has enough pipelines. For instance, economist Jeff Rubin thinks oil sands economics are “faulty” from the get go and pipelines to tidewater would actually lower the price producers receive.

Some environmental groups accuse industry of flat out lying about the need for new pipelines.

“Canada does not need new pipelines, in spite of repeated misleading claims by the oil industry,” according to a 2016 Oil Change International analysis showing that Canada has ample pipeline capacity to export all existing and under construction oil production to market from western Canada. ”

“The analysis suggests that industry has manipulated its forecasts to perpetuate an ongoing myth of pipeline constraints in order to advocate for unnecessary new pipeline construction.”

Widening differentials for Western Canadian crude oil grades put the lie to that argument.

We can debate the role of pipelines in global warming, the risk of catastrophic releases, or the effect of oil tankers on marine eco-systems, which are all legitimate issues, but the facts make clear that Canada needs more pipelines.

And by Canada mean the energy workers who support their families, the governments that generate royalties and taxes to provide public services, and the small businesses that are the backbone of local economies.

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