The commissioning of the expanded Trans Mountain oil pipeline earlier this year was a unique event. In a place where the government and many people were not very keen on pipelines, a major pipeline was allowed to come into operation. And with that came great hopes.
Some of these goals have already been achieved – Canadian oil sands operators are increasing their production. However, other goals have been delayed – the Canadian oil price is still trading at a significant discount to the US benchmark price.
Alberta’s oil producers struggled for years to make the most of their resources due to a lack of export destinations. U.S. refineries had an easy source of heavy oil, and with no other buyers, prices steadily dropped into double digits.
When plans for the Trans Mountain expansion were drawn up, producers undoubtedly saw an opportunity for higher prices. After all, the expanded pipeline would deliver 590,000 more barrels of oil per day to the Port of Vancouver, for a total daily throughput of 890,000 barrels. These barrels could be sold abroad, where demand for heavy crude is quite high due to scarce sources and Canadian producers could get a good price for their product.
Indeed, initial reports on the new and expanded Trans Mountain project were promising. A Chinese company bought its first shipment of Canadian crude in March, proving that there is indeed demand for Canadian heavy oil abroad. In May, another report surfaced of a shipment for China.
While these reports will likely continue to come in as Canadian producers open up outside the U.S., Canadian oil continues to trade at a double-digit discount to West Texas Intermediate. At the time of writing, that discount was around $15, with Western Canadian Select at just over $58 a barrel and WTI above $73.
In a report this week, Reuters said some of the biggest oil sands players attributed the low prices to increased competition from Mexican crude on the Gulf Coast, which would erode refiners’ demand for Canadian crude. They also cited refinery outages that were hurting daily demand. But optimism remained.
“I would say we expect Trans Mountain to continue to have the intended impact in Alberta over the near term and that the price differentials will be the smallest they have been in a long time,” said Geoff Murray, executive vice president of commercial at Cenovus, according to Reuters.
“The important thing about Trans Mountain is that we’ve seen the plant come online. It’s up and running, and it’s running well,” he also said, reminding the audience of the conference call where he talked about the Netflix saga that was the story of Trans Mountain and that could be seen as a sequel story on Netflix.
The massive project was beset with problems from the start, the biggest of which was opposition from environmentalists, which included not only community activists but also the federal government. In 2018, the company behind the project, Kinder Morgan, had enough of the fight and gave up. The same federal government was forced to buy the project due to the sheer scale and the investments already made. It also realized, albeit reluctantly, that Canadian oil producers could use more pipeline capacity to generate more tax revenue.
These producers began increasing production months before the expanded Trans Mountain came online. According to a TD Economics note earlier this year, Canada’s total oil production is expected to increase by 300,000 to 500,000 bpd this year. This growth rate may seem positive, but it may also be a cause for concern – further expansions of the Trans Mountain are unlikely.
Some analysts have warned that Canadian oil producers have only a few years to use their extra export capacity before production exceeds it and prices collapse again due to the new shortages. BMP analyst Ben Pham, for example, said the Trans Mountain pipeline would increase Canada’s total capacity to 5.2 million barrels a day. Production is already at around 5 million barrels a day, leaving a reserve of 220,000 barrels a day of spare capacity, according to Pham.
But that trend will quickly fade as production growth continues, RBN Energy analyst Martin King said earlier this year. Instead of four or five years of spare capacity, as originally expected, the Trans Mountain expansion could only provide relief for about two years.
“The original assumption was that TMX would give us a window of four or five years,” the analyst said in February, according to Reuters. “Now it looks like that window of free capacity could actually be much smaller.”
It may be too early to attribute WCS’s stubborn discount to WTI to these expectations of a pipeline shortage in a few years. But it may also have been a little too optimistic to expect everyone to immediately buy Canadian crude and push prices up to near parity with the U.S. benchmark. The Trans Mountain Pipeline has only been in operation for a few months, after all. It’s quite possible that it will take longer to have an impact on Canadian oil prices. In the meantime, producers could be refining their plans to increase production. More supply always means lower prices, after all.
By Irina Slav for Oilprice.com
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