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From the Survey: BancorpSouth
The recent purchase of a 50% stake in the Seaway oil pipeline by Enbridge Inc. (ENB) has the potential to change the dynamics of the U.S. energy market. The $1.15 billion acquisition of ConocoPhillips’ (COP) interest in the pipeline made Enbridge the joint owner with Enterprise Products Partners (EPD). Concurrently with the acquisition, the two owners announced an agreement to reverse the flow of Seaway. The pipeline had previously transported crude oil from the Gulf Cost in Texas to Cushing, Oklahoma. The purpose of the reversal is to enable crude in storage at Cushing to flow south to the major refinery complex along the Gulf Coast. The pipeline reversal is a relatively simple project, and is projected to be up and running by April 2012. Initial transportation capacity is projected at 150,000 barrels per day, but further investments in pump station additions and modifications could boost output to 400,000 barrels a day by mid-2013.
The project undertaking has had an immediate effect on crude oil prices and has resulted in a substantial narrowing of the Brent/WTI spread. Previously, the substantial crude oversupply in Cushing, coupled with the inability to transport it to large refineries, had been a major factor in the sharp price differential between West Texas Intermediate (WTI), the U.S. crude benchmark, and the international Brent crude benchmark. However, the price of WTI surged immediately following the pipeline reversal announcement, and the Brent/WTI spread narrowed to less than 10%. Notably, it had been as high as 30% just a few weeks earlier. Although the price of WTI has pulled back a bit since then, the shift in pricing dynamics should remain, given the market’s belief that the pipeline will resolve the crude supply bottleneck at Cushing. This should allow more WTI crude to be processed at refineries than before, which would provide a positive catalyst for pricing.
The Seaway reversal may also have an impact on plans for the controversial Keystone XL pipeline. TransCanada Corp.’s proposal to build this pipeline from western Canada to the Gulf Coast has already come under intense political opposition. Indeed, the U.S. State Department recently announced that it wouldn’t approve Keystone until at least early 2013. The $7 billion Keystone XL is a major expansion on the existing Keystone pipeline, which runs from Alberta, Canada to refineries in the United States. The goal of the proposed Keystone XL is to build a complete transportation system between Canada and multiple destinations in the U.S., including certain refineries, the major storage /distribution hub in Cushing, and the Gulf Coast. Indeed, a major focus of the project is to provide the Cushing-to-Gulf Coast extension. Thus, the Seaway reversal is in direct competition with Keystone, and has a significant head start into the market. Indeed, the fact that the pipeline can be expanded to 400,000 barrels a day by early 2013 (before approval of the full Keystone proposal) may make TransCanada’s pipeline project less necessary. However, TransCanada has decided to pursue plans to quickly construct just this part (Cushing to Texas) of the Keystone project, even as it faces opposition to the full pipeline proposal.
Although it remains to be seen how the competition between Enbridge/Enterprise and TransCanada will play out, transportation from Cushing should continue to have a large impact on the domestic energy market, in addition to the effect on crude pricing. Up until now, the relative oversupply situation in Cushing had led to major increases in regional investments, as companies sought to capitalize on the storage and distribution demand. However, some of these companies now appear to be overexposed to these projects, considering the prospects for transportation out of Cushing. Meanwhile, Enbridge and Enterprise are in a unique situation, where the Seaway reversal and additional capacity build out should begin to serve this fundamental market need. Yet, they have the luxury of waiting to see what happens with the Keystone approval before deciding to potentially double-down on the investment and possibly become the primary provider of Cushing-to-Gulf Coast transport in the near term.
At the time of this article’s writing, the author did not have positions in any of the companies mentioned.