November 11, 2011 / 9:01 PM / in 6 years

Traders bet Keystone alternative will end US oil glut

* Brent premium to WTI narrows despite Keystone delay

* Traders betting other pipelines will be built

* Enbridge’s Wrangler network could fill pipeline gap

By Joshua Schneyer and Matthew Robinson

NEW YORK, Nov 11 (Reuters) - Within hours of news that a proposed Canada to Texas pipeline won’t be built any time soon, oil traders were already betting on alternative ways to ship a glut of crude from the U.S. Midwest to the Gulf Coast.

TransCanada Corp’s $7 billion, 600,000 barrel per day (bpd) Keystone XL pipeline had been viewed as crucial to getting Canadian and North Dakota crude out of the landlocked region where surging stocks have driven the price of U.S. crude to record discounts to Europe’s benchmark Brent this year.

U.S. President Barack Obama announced this week that his administration would take at least another year to study the project and determine if it should be rerouted to avoid a Nebraska aquifer.

A decision on whether Keystone can be built was expected later this year, but the delay has pushed it back to at least 2013 -- when the pipeline had been expected to come online previously.

The midcontinental crude glut has weakened West Texas Intermediate (WTI) relative to Europe’s Brent in recent years.

But instead of losing ground to Brent following Keystone XL’s delay this week, WTI has actually shot up in value against the London-traded crude, both in prompt markets and further out on the futures curve.

The move signals that traders are betting alternative alternative crude transit methods that have sprung up in recent months will fill the gap to ship crude out of the Midwest to the Gulf Coast refining center.

“Oil traders anticipate that with or without Keystone XL, there is likely to be a resolution,” said Matt Smith, analyst for Summit Energy in Louisville, Kentucky.

“There’s a lot of talk about Wrangler as a pipeline network that could step up and be an adequate replacement for Keystone XL.”

The discount of U.S. crude, also called West Texas Intermediate, to Brent expanded to a record $28 a barrel in October, but has steadily declined since, even as the threats to the timeline for Keystone XL mounted.

This week, when the delays were confirmed, the spread narrowed more than $3 to $15 a barrel on Friday, an indication that traders are betting the Midwest crude glut was still expected to ease. GRAPHIC:

NEW OPPORTUNITIES

The delays in Keystone XL -- which some experts say could kill the project entirely -- benefit alternative proposals, some of which have shorter timelines.

Enterprise is in talks to buy out its partner Conoco in the 350,000 bpd Seaway pipeline, which ships crude from Freeport, Texas, to Cushing, Oklahoma, the delivery point for U.S. crude oil futures. Enterprise could then reverse the flow of the pipeline and send crude away from Cushing.

“One of the implications of the potential delay would be to accelerate other pipeline solutions, including the potential Seaway solution,” said Ed Morse, global head of commodities research at Citigroup.

“That could mean instead of waiting until 2013 for an evacuation of crude out of Padd 2 (Midcontinent) into Padd 3 (Gulf Coast) it might happen in 2012 instead.”

Enbridge announced this week it will likely proceed with Wrangler, an 800,000 bpd, $2 billion pipeline that would shift crude from the Cushing to the giant U.S. Gulf Coast refining hub after receiving strong shipper interest. Enterprise is also a partner in Wrangler, which could be in service by mid-2013.

Confidence that one of these pipelines will help alleviate the Midwest glut can also be seen further out in the oil futures curve. The premium of December 2013 Brent to December 2013 WTI, which topped $17 a barrel in September, has dropped more than $3 this week to $8.35 on Friday.

“There’s a growing realization that despite (Federal) government actions, the economic imperative is to move more oil out of Cushing, and that has been taking place.” said Mark Routt, analyst and engineer at KBC in Houston.

MORE ROOM FOR RAILS?

Further relief to the Midwest crude glut has come from alternative shipping methods. As the disconnect between Cushing and Gulf Coast markets grew this year, shippers and producers scrambled to find new ways to capture the tempting arbitrage of more than $20 a barrel available for those who could get crude to the coastal refining hub.

Companies have been shipping crude by rail and barge and business is expected to be healthy in the medium term, and potentially more profitable amid Keystone XL’s delay.

Routt said new rail terminals in North Dakota hold capacity to ship up to 350,000 bpd and that those volumes could double by 2013.

“If no pipeline solutions occur in the next few years, we are likely to see a very significant build out of rail capacity, which has higher transportation cost than pipelines, to bring Canadian oil sands and Midcontinent tight oil to new markets,” IHS Cera said in a note to clients.

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