Exclusive: As Cushing hub grows, oil price less prone to plunge

A general view shows the PetroChina's Daqing oil field in China's northeastern Heilongjiang province November 5, 2007.

NEW YORK (Reuters) - Oil storage capacity at Cushing, Oklahoma, the primary U.S. crude delivery point, has expanded by 5.2 million barrels this year, cutting the risk that a shortage of tanks could cause oil prices to plunge.

Capacity at Cushing, the pricing hub for NYMEX oil futures, has quietly grown 11 percent to 51.5 million barrels, up from 46.3 million barrels in February, according to company filings, presentations and industry sources surveyed by Reuters over the past week.

The boost in storage space lessens the risk that Cushing will quickly fill up, forcing traders to sell off prompt crude hurriedly, rather than try to deliver it to the hub. When Cushing filled to near its limit in January and February, the sell-off scenario triggered a collapse in NYMEX crude prices, and gaping futures spreads.

Due to Cushing's capacity expansion, traders holding WTI contracts may now be less concerned by swelling in Cushing stocks -- which have risen 7.8 million barrels during the last six weeks to 33.4 million barrels -- although the rise has been affecting prices.

The discount for front-month WTI versus supplies for delivery a month later has widened to around $2.00 a barrel, up from around 40 cents in October and 60 cents in November.

Back in February, when Cushing rose to 34.9 million barrels, front-month WTI crude was discounted by up to a record $10 a barrel, and traded at a discount of up to $11 a barrel to Europe's Brent oil.

"In theory, the more storage space you have at Cushing, the smaller the contango discount should be," said Phil Flynn of PFGBest in Chicago. "The chance of a glut is obviously less."

Crude storage capacity figures at Cushing are often kept private, leaving oil traders guessing about how close the hub is to filling up.

Experts say Cushing's tanks can hold only around 80 to 85 percent of their capacity, for safety reasons. That would put the hub's current operable capacity limit around 43.8 million barrels -- leaving up to 10.4 million barrels of unused capacity as of last week.

In February, Cushing stocks likely came to within 4.5 million barrels of operable limits, according to a Reuters analysis.

Cushing's supply bottlenecks have brought oil price and spread volatility, triggering doubts over WTI's usefulness as a major benchmark crude. That recently prompted Saudi Arabia to adopt a new marker for its U.S. crude exports.

A steep contango curve in crude markets can weigh heavily on outright oil prices, dragging them down even though the pressure stems from a localized glut. Cushing is landlocked, and there is little pipeline capacity to pump oil away to other regions.

On Thursday, WTI for front-month (January) delivery fell below $70 a barrel, its lowest level in two months.

CAPACITY CRUNCH

The contango structure and Cushing inventories grow together in a self-perpetuating loop -- higher oil stocks widen the contango, which in turn makes it more profitable to squirrel away crude and sell it for delivery later, at a higher price.

But as Cushing nears capacity, the market impact can be striking, as oil producers and traders are forced to lower prices quickly or shut down the flow of oil to the hub.

Brimming onshore stocks of crude at Cushing and other hubs has encouraged trading firms to store increasing quantities of crude on tankers at sea, where they held more than 100 million barrels as recently as April, according to shipping sources.

Companies have been adding storage space at Cushing to prepare for profitable storage plays in the future.

Since February, Enterprise/Teppco has upped its Cushing crude storage capacity by 3 million barrels, while Semgroup Corp and Blueknight Energy Partners gained a combined 3 million barrels of tankage, according to presentations and sources.

Canada's Enbridge, Cushing's biggest storage holder, cut its tankage space this year by 800,000 barrels to 14.9 million recently, by retiring some older tanks. Enbridge has no immediate plan to expand Cushing storage, a source said.

Plains LP, however, will add another 2.3 million barrels of tankage capacity over the first half of 2010, boosting its share to 13.1 million barrels, a source told Reuters.

Vitol SA-controlled Blueknight is mulling its own expansion. The company, which recently gained control of 6.7 million barrels of Cushing storage, may eventually add another 2 to 4 million barrels of tankage on vacant land it controls at Cushing, a spokesman said.

'OH, CANADA'

Rising Cushing stocks come amid recently weak refinery demand in the U.S. midcontinent, but Canada's increasing crude sales to the region may pose the biggest threat of new gluts.

Enbridge's newly expanded Spearhead pipeline, which carries Canadian crude to Cushing, was booked to transport around 150,000 barrels a day in the fourth quarter, up more than 50 percent from levels early this year.

Two new pipelines will pump more Canadian supplies into the U.S. midcontinent starting next year, potentially increasing crude flows to the region by nearly 1 million barrels a day when they reach full capacity.

The larger line, Transcanada's Keystone, is bound for Cushing by the end of 2010.

(Editing by Alden Bentley and Jonathan Leff)