NEW YORK (Reuters) - An unprecedented slump in price differentials for the thriving Permian Basin oil patch in Texas may persist far longer than initially expected, handing a windfall to nearby refiners at the expense of producers.
Oil production from the region has overtaken both the Bakken shale and Eagle Ford in growth, as the rate of oil production is set to increase for the fifth consecutive month in September, outpacing the other major plays where growth has slowed or stayed realtively stable in recent months. Pipeline or rail companies are lagging behind in efforts to move that oil to Gulf refiners just 470 miles to the southeast, causing local stockpiles to swell.
On Tuesday morning, West Texas Intermediate crude delivered into Midland, Texas, for September traded at a discount of $21.50 a barrel versus the equivalent benchmark oil delivered Cushing, Oklahoma, just 500 miles away. It was the widest discount since Reuters began reporting the price in 1998.
While the differential narrowed later in the day, the growing glut of crude from the Permian Basin has become increasingly apparent over the past few months. However, the latest slump has forced analysts and traders to ponder whether the problem of plenty will be more than a passing phase.
With autumn refinery maintenance just around the corner, a near-term recovery is unlikely. Several new pipelines slated later this year were initially expected to ease the woes, but some now say it may take a year or more to alleviate the latest set of logistical bottlenecks to emerge from the shale bonanza.
“The futures curve seems to suggest that the differential will go back to a normal sub-$5 a barrel in the second half of 2015 and that’s considerably more elongated than what we first thought,” according to Simmons & Co International analyst Bill Herbert.
To benefit are refiners in the region tapping into the extremely competitive oil. This includes Alon USA Energy Inc’s refinery in Big Spring, Texas, 45 miles northeast of Midland. It ran 24,500 bpd of Midland crude in the first quarter, 60 percent of its slate, the company said.
Delek US Holding, which has a refinery further east in Tyler, Texas, said it was enjoying a “competitive advantage” as the Midland crude discount to Cushing crude averaged $8.37 per barrel in the second quarter — versus just 14 cents a year before.
Rail operators are scrambling to get in on the arbitrage. Last week marketing firm Murex LLC announced plans to double its rail oil-loading facility in Carlsbad, New Mexico to 40,000 bpd — just eight months after it had loaded its first cargo.
“In late 2012, when Midland was almost a $20 discount to Cushing, operators trucked oil to the Gulf Coast at $20 to $25 a barrel and still seeing price uplifted relative to Midland,” said Edward Sherfey, an analyst at consultancy Wood Mackenzie.
The largest producers in the Permian most at risk to get squeezed as a result of their crude being worth less include Apache Corp and Occidental Petroleum Corp.
Analysts note that some producers choose to peg their crude on delivery into the Gulf Coast or Cushing, as to avoid the recent price risk.
The differential slump has come alongside a steady decline in benchmark prices as well, knocking some $20 off Midland-based crude prices over the past three weeks to push them to around $76 a barrel since 2012 lows of $67 a barrel. Midland hasn’t traded significantly below $70 since oil prices collapsed after the 2008 financial crisis.
Breakeven costs for oil at the wellhead across seven sub-plays in the Permian’s Wolfcamp Basin range from $61 to $95 a barrel, according to a Wood Mackenzie analysis. Still, the wider discount is unlikely to affect short-term production plans.
“Production isn’t an on-off switch. Even if there is a sustained spread, there are other options like trucking and railing,” Sherfey said.
As Permian production continues to take off, stocks in the region have also increased, according to Hillary Stevenson, manager of supply chain network at analytics group Genscape.
Inventories rose for six consecutive weeks through early August, according to Genscape data, even as inventories at the Cushing hub dwindled to six-year lows. Midland stocks dipped by 210,000 barrels in the week ended Aug 15.
Inventories may subside further with the start-up of Magellan Midstream Partners LP’s 300,000 bpd BridgeTex crude pipeline at the end of September, which will move oil from Colorado City, Texas, to the Houston area.
“I think the market is expecting Magellan’s BridgeTex pipeline to alleviate constraints in the area, but we’ll see how things operate and when it gets fully up and going,” said Stevenson.
Reporting by Catherine Ngai in New York; Editing by Jonathan Leff and Andrew Hay