The Canadian Joint Review Panel’s approval last week of the 525,000 b/d Northern Gateway pipeline, from Bruderheim, near Edmonton, to Kitimat, British Columbia could spell the end of steeply discounted Canadian heavy sour crudes. It also may reduce the urgency to build the Keystone XL Pipeline and Energy East Projects, though if projected production increases come into effect in Canada, Northern Gateway won’t be enough to handle that rise.
Canadian heavy sour crude differentials to WTI have gone on roller-coaster rides because that supply is nearly 100% dependent on US markets, primarily in the Midwest, Gulf Coast and West Coast. Any pipeline or refinery hiccup had led Western Canadian Select, the benchmark of Canadian heavy sour crudes, to be plagued by steep discounts. (As the accompanying chart shows.)
The “landlocked” Canadian heavy sour crude, when the Northern Gateway pipeline comes online, will allow greater shipment of Canadian heavy sour crudes to Asia, the region in the world with the highest demand growth. China and Asia in total are expected to add slightly more than 3-million b/d of refining capacity between now and 2016, according to OPEC.
Enbridge is expecting the Northern Gateway project to be in operation by 2018.
(Canadian producers can access the Asian markets to a limited degree by shipping oil to the West Coast on the TransMountain Pipeline. But that’s only 300,000 b/d, though it has plans to grow to just under 900,000 b/d.)
The Northern Gateway pipeline will reduce Canadian heavy sour crudes’ dependence on the US Midwest and Gulf Coast and will offer support to the differential for Canadian heavy sour crudes to Calendar Month Average (CMA) WTI. The access to a crude oil-hungry region will only boost Canadian heavy sour differentials.
“The need to reduce dependence on the US market is the key to ensuring Canadian heavy sour crudes obtain market value and not fall into a boom bust cycle,” said a Canadian producer.
Northern Gateway means linking the Canadian crude oil market to the international market beyond the US, which exposes Canadian crude oil to international arbitrage opportunities. The arbitrage will ensure Canadian crudes do not suffer the same fate as has occasionally occurred, where a temporary glut emerges and the discount to CMA WTI suddenly drops to $40/b and $50/b discounts.
Western Canada Select is currently trading at around CMA WTI minus $26/b, according to Platts data.
With the Northern Gateway line, the other pipeline projects that have plans to ship Canadian heavy sour crudes to the US Gulf Coast and Eastern Canada seem less urgent now than ever before, according to traders active in the market for Canadian crudes.
The 830,000 b/d Keystone XL pipeline is a bullet line from Hardisty, Alberta, to Cushing, Oklahoma, while the Energy East project is a 1.1 million b/d pipeline from Hardisty to Saint John, New Brunswick. And Keystone XL, of course, is tied up in a political battle for the necessary US State Department approval to cross the Canada-US border.
“The Keystone XL line, more than Energy East is needed because with more than 50% of total US refining capacity located in the Gulf Coast and with refiners having the capacity and capability to refined asphaltic crudes, it will offer Canadian heavy sour crudes access to more markets and enable them to capture arbitrage values,” said a Gulf Coast refiner.
The fear for much of the Canadian oil patch is that only when there is sufficient takeaway capacity to Asia and the US from Alberta will Canadian crude production rise to its potential, because producers increasingly fear the return of steep discounts should there be inadequate ability to move that oil to market.
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Total Canadian crude production in 2013 is expected to be just under 3.5 million b/d, with production expected to rise to 4.85 million b/d by 2020, according to the Canadian Association of Petroleum Producers. Canadian heavy sour crude output from oil sands operations is expected to rise by 1-million b/d by 2018,
The Northern Gateway and Keystone XL pipelines are expected to be able to take away some of the first projected increases, when oil sands production from Western Canada is expected to rise by about 300,000 b/d, according to CAPP.
The Energy East project, which TransCanada planned to take crude oil to eastern Canada refineries, takes into account the growth in oil sands production between 2015 and 2020, estimated at about 1-million b/d.
“The Energy East project is what really takes into account growth in Western Canadian crude output. It is too premature to say if the urgency to build the Keystone XL and Energy East projects has lost momentum,” said a Canadian pipeline source familiar with the pipeline projects.