Rising oil output in the US has already begun to alter the traditional price relationship between US and international crudes, and continued production growth could lead to a domestic glut of certain grades, adding to pressure to lift restrictions on crude exports.
The stunning turnaround in the US’ oil fortunes has made plenty of headlines, and the outlook for near- to medium-term growth remains robust. “At this point we’re expecting about 1 million barrels per day of growth year-over-year for 2013,” Michael Cohen, vice-president and oil analyst at Barclays, told Breaking Energy.
This increase in production, absent a commensurate increase in transportation capacity, has flipped the traditional relationship between international benchmark Brent and Light Louisiana Sweet. “Normally LLS has traded at a $2-$3 per barrel premium to Brent, but since this summer, it’s traded anywhere from a $6 to $12, even a $17 discount,” Cohen said. “That signals the entire continent has kind of disconnected from world markets.”
“The presence of this discount indicates that the infrastructure still needs to be built and there are still imports that can be backed out in other parts of the US,” Cohen said.
The oil industry is not yet at risk of dealing with the kind of domestic surplus that pushed natural gas prices to levels too low to sustain production growth. And there are temporary measures that producers and refiners can take to manage supply, according to Cohen. These include blending lighter crudes with heavier barrels that are still coming into the Gulf Coast as imports, making what the industry calls “dumb bell” crude, as well as potentially building out rail infrastructure from the Bakken shale to the West Coast.
Exports to Canada are also an option for at least of portion of growth. “A lot of what is coming out of the Eagle Ford shale – maybe a third of the incremental growth of around 1MM bbl/d over the last couple years – has been in the form of lease condensate,” Cohen said. At present, outlets for that lease condensate include processing into light products for Asian, European and Latin American markets, as well as strong demand from the Canadian oil sands, where it is used as diluent – blended with bitumen to ease its movement through pipelines.
For more on crude and lease condensate, see The US’ Absurd Oil & Gas Export Laws
“All of those outlets have room to grow, to take this glut, to not have to see acute constraints for the next year,” said Cohen. “But if we see the same kind of growth for 2015, then some of those options will have run their course and we’re going to have bigger problems.”
The prospect of a glut has led to increasing calls for the US to revisit existing restrictions on the export of domestically produced oil, which is allowed only under limited conditions. “This year we’ve already seen ExxonMobil, Continental and ConocoPhillips advocating for the US government to revisit crude export restrictions,” Cohen said. Energy Secretary Ernest Moniz recently suggested that with reversal of the US’ energy fortunes, the ban may be outdated.
But calls for exporting more US crude will likely meet stiff political resistance. “In the current political environment, it is extremely difficult to try to tackle this issue,” said Cohen. “It was enough of an issue to tackle natural gas exports, and look how long that took.”
“It’s going to be a hard sell congressionally and to the American people,” Cohen said.
Cohen noted that one likely argument from opponents of allowing more crude exports is that keeping domestically produced energy at home helps to keep domestic supply up and prices down. But US crude prices are not the only determinant of domestic gasoline prices.
“Consumers are starting to see a bit of benefit from all of this rising crude supply and this disconnect from world markets, so that’s going to be a big debate, convincing consumers of what a lifting of any of the restrictions would do,” he said. But “refiners are still going to be charging a world product market-linked price for their products”.
Those who favor crude exports could argue that some US crudes are not fetching a full and fair market price. “If coastal prices like LLS are discounted from other grades like Brent, then the US producer is not getting what it could get otherwise from a Gulf Coast buyer of that crude,” Cohen said. He added that it would be “very hard for the US to be advocating free trade to other countries for this or that product, and for us to have this restriction in place”.
There may be intermediate steps that fall short of a lifting of the ban on crude exports, but enable the export of some additional volumes. “A national interest determination has been made in the past for certain exceptions, including exports from Alaska’s Cook Inlet, and to Canada, or exports of Alaska North Slope and California heavy crude,” Cohen said.