Podcast: Crude is rushing past Cushing on its way to the coast, but the traditional price setting center of the US oil industry is likely to maintain its role for years to come.
A podcast episode
Yes, the US Gulf coast has become more important thanks to growing crude exports, but that doesn’t mean Cushing’s role has become less important. Cushing is still the pricing basis for all of the major domestic and internationally traded grades at the Gulf coast and in Canada, and pipelines continue to be built into and out of Cushing, supporting high volumes of physical trade there. The Nymex futures contract for light sweet crude oil delivering at Cushing is stronger than ever, with more than 2 bn bl of open interest. In this 6th and last episode of our podcast mini-series examining the US Gulf coast crude export landscape, our Vice President, Business Development, Jeff Kralowetz and Americas Crude Deputy Editor Amanda Smith highlight Cushing’s price correlation with the US Gulf coast and its expanding pipeline infrastructure.
Jeff: Hi, everyone. Welcome back to this series of podcasts from Argus, a leading provider of energy and commodity price benchmarks. We're examining the market effects of rapidly rising crude production and exports in the United States. I'm Jeff Kralowetz, Vice President of Business Development for crude in North America.
Amanda: Hi. And I'm Amanda Smith, the Deputy Editor of Americas crude which is the Houston based editorial team that creates the daily price indices for the US, Canadian and Latin American and physical spot crude markets.
Jeff: So today's topic is Cushing, which, as many of our listeners know, has been a center of trading activity for decades in US crude markets. But as exports grow and as more crude heads to the coast, the role of Cushing is changing, which is exactly what we want to talk about here. So I guess the first issue is this, do we see Cushing remaining a key hub for trading and for price discovery in US crude markets?
Amanda: So in a word, yes. The Nymex futures contract is based on light sweet crude oil deliverable at Cushing, and it has more than 2bn barrels of open interest. And unlike many stretches of time over the last decade, Cushing is no longer dislocated in price from the coast by pipeline bottlenecks, so we don't see those big $15 to $20 spreads between Brent and WTI Cushing anymore. The Cushing price is the basis price for all the coastal grades that Argus assesses – most of the US grades Argus assesses – so it is still a critical price. And from a logistics point of view, we still see additional pipelines being built into and out of Cushing.
Jeff: Okay, so that's a good place to start to get into our discussion. What are you and the reporting team seeing in terms of new lines that are coming into Cushing?
Amanda: Well, so there's lots of them actually. So just to hit a few of the highlights, so Tallgrass, which is a growing midstream company is looking to expand its Pony Express Pipeline in cooperation with Kinder Morgan, more than doubling capacity to 700,000 b/d, and that gets more Bakken and Rockies crude to Cushing. And then the bigger Pony Express volume would compensate for one of the White Cliffs pipelines being switched to NGL surface from the Rockies. Then Plains, Basin and Sunrise lines from West Texas to Cushing have seen expansions.
One other new pipeline involving the Rockies is the Phillips 66 Bridger joint venture line to be called Liberty. It would bring Bakken from North Dakota and Rockies crude to Cushing and would connect to other Phillips 66 lines that could carry that crude onto the coast.
And finally, Plains just this summer has come up with a proposal to expand its Rangeland pipeline system in Western Canada, and then also to expand the Glacier system in the US, to carry extra Canadian barrels to Guernsey, Wyoming and then onto Cushing. So lots of new capacity is heading for Cushing, and that's important because this brings more volumes into the domestic suite crude blend from these locations.
Jeff: Okay. So that sounds like a lot of new barrels coming to Cushing, and yet, with all this inbound volume, we're still seeing that the inventories of Cushing are falling. So what's going on there?
Amanda: Well, so a couple of things. First, the market is in backwardation, so that's when prompt prices are higher than prices in forward months. And when that's the case, or if the market is an only a slight contango where prices are only a little lower than forward press months, then companies don't have that incentive to store crude because they're not going to make money off of storing the crude for the future because they're paying storage fees. So they're just not going to hold on to those barrels, and they're going to want to sell them out of inventory. Second, the pipeline bottlenecks that used to limit the ability to get Cushing crude to the coast have largely been eliminated. So lots of companies want to get their crude to coastal refineries or onto the water.
Jeff: And one of the results of that loosening pipeline constraints is lower tariffs on the key pipelines between Cushing in the coast, such as the Enterprise Enbridge Seaway line, and TC Energy's Marketlink. Is that right?
Amanda: Right. So as you see the markets aligning or the Cushing in the coastal markets aligning more in the spread between those narrowing, you're also seeing these pipelines cutting their rates from Cushing to the Gulf coast because they want to still have crude shipping on the pipelines. So back in July, we saw the Seaway and Marketlink pipelines both cut their pipeline rates from Cushing to the Gulf coast for Argus deliveries. And then EPIC cut its pipeline rate from the Permian to Corpus for Argus delivery about in half. And then after that both Seaway and Marketlink cut their walk-up rates again for uncommitted shippers for September deliveries.
Jeff: Great. So now while we're talking about Seaway and Marketlink, what are the new pipeline projects to get out of Cushing?
Amanda: Well, one very recently announced one is Red Oak, which is a joint venture of Phillips 66 and Plains that uses some existing Plain's pipeline capacity and gets crude from both Midland and Cushing also to both Houston and Corpus Christi. So the interesting thing about this is this project kind of highlights the trends of spreading pipeline capital requirements out among multiple partners and a JV and using existing pipelines so that you reduce your construction costs.
Jeff: And I guess also this Red Oak project kind of nicely fits with P66's plans to build an offshore buoy for exports of crude in the Corpus Christi area. So we could actually see Cushing and its huge storage capacity effectively becoming a staging area for cargoes out of Belmont, and Houston and Corpus Christi.
Amanda: Right. And I think you could say you could even argue that Cushing barrels could end up being exported from Louisiana once Capline is reversed. So Plains is planning a doubling of capacity on its 200,000 b/d Diamond pipeline that runs from Cushing to Memphis. Right now it mostly meets the needs of Valero’s Memphis refinery. So if they increase that pipeline capacity, then they're going to have extra crude that could be then shipped to a reverse Capline on to St. James, Louisiana and then exported from there. So it could get there by late next year. So we've already seen multiple cargoes of LLS exported from St. James. And so there's no reason why light crude from Cushing couldn't be blended into LLS and exported or it could be exported on its own.
Jeff: Okay, so there's lots of dots to connect with all this new infrastructure. And I know there are other pipeline projects out of Cushing, such as the Seahorse to Louisiana, and Magellan's Voyager which is currently in its open season, but let's move on. I know you want to talk a little bit about the new storage auctions that are going on at Cushing and the first auction that was just held recently.
Amanda: Yeah. So there was a first auction held in early August for Cushing storage space. It was held by Matrix Markets, which also does the Loop storage auctions and American Midstream sold, they offered 2.9 million barrels of storage space. I mean, 2.15 million barrels of that storage space was sold. Now, the price of the storage space contracts was only 7 cents per barrel and that's going to be low because, again, talking about there not being the incentive to store crude, you're not going to want to pay a lot of money to store crude in a backwardated or a narrow contango market.
Jeff: Okay. Really good. Now, here's a little bit of a philosophical price reporting question, and I think we touched on it a little bit earlier. If the bottlenecks between Cushing and the coast have essentially been removed, isn't the Cushing price just a netback from the coast? And can we really say that Cushing is still a price discovery center?
Amanda: So I don't think there's any doubt that the Cushing price is going to reflect the coastal price more closely than it did before when there was limited pipeline capacity to the coast, but there's other fundamentals that do impact the Cushing market. So it has its own local fundamentals. Crude from Cushing can be run in Oklahoma and Kansas refineries, and then also it can be shipped north to the Chicago area refineries. So there's that difference in fundamentals as compared to the coast. And also it's the basis price for nearly all US crude prices and Canadian crude prices.
So WTI Cushing will always be, or at least in the foreseeable future, I think, command a lot of trading activity. I mean the market, the physical market, is traded as a differential to the calendar month average Nymex. And so that's still among the most actively traded physical assessments that Argus publishes for US crude grades.
Jeff: And I guess alongside of that, very actively traded differential to CMA the physical WTI at Cushing, we've also introduced back in 2016, several assessments for other grades at Cushing, including Niobrara, White Cliffs, Bakken, and of course, the DSW that we're going to talk about here in just a second, but it probably brings up the idea of quality specifications. As you know, from your perch as the Deputy Crude Editor, the WTI traded at Midland and Houston tends to be in the 42 to 44 API range. And most export WTI cargoes are also in that 42 to 44 API range. So increasingly, the world is seeing WTI as a 42 to 44 API crude, but the quality range for the light, sweet crude that gets delivered into the Nymex Cushing light sweet futures contract is actually 37 to 42 API and it's assumed to be a blended grade called domestic suite that meets other specifications and parameters as well.
So I guess we have an irony here. The world sees WTI as 42 to 44, and yet the rules around the quality of crude deliverable into the NYMEX contract say 37 to 42. What do you see happening here?
Amanda: So, I mean, it is ironic that the most of the WTI production coming out of the Permian is really...I mean it's lighter than what the contract specifies as the quality parameters, but it's not necessarily a problem since the market already accounts for this quality difference in the price. And the Nymex Cushing contract has reflected the value of a light blend of crude at Cushing for years, it's just been recently that he parameters have been locked in.
Nymex in cooperation with the Crude Oil Quality Association and local Cushing terminal operators, they work together to come up with a set of parameters to tighten those quality specifications on metals, acid, and on the heavy bottoms, as an effort to prevent so-called dumbbell barrels from being delivered into the light sweet crude futures contract.
So it's been a long, or we're in a long process to change the quality specifications on the contract to have more points of quality that needed to be taken into consideration for the crude to be deliverable into the contract, but that's come into play. And so, the market, they basically assume that the crude delivered is going to be a blended barrel that's going to fit within those parameters. So you're going to see actually a discount for DSW, domestic sweet crude, to true Permian crude when they're priced at the same location, because the market prices that in. So there are, as with a lot of issues in the markets, as long as there's transparency about the quality, the market can reflect that in the price.
Jeff: Thank you very much for that. I think we're going to have to wrap this up, but let me remind everyone who's listening that there's lots of great commentary and pricing regarding Cushing and the Gulf coast and other North American markets in the publication that Amanda works on every day, the Argus Americas Crude report. And if you enjoyed this podcast, please be sure to tune in to the other five parts of this series.
Amanda: Yes, and please also remember that dates have been set for the next Argus Americas Crude Summit which will be in Houston, February 3rd through the 5th, 2020. So check out argusmedia.com for more details. Thank you for listening, and we'll be back next time with another look into one of the prices that create our world. [inaudible 00:11:40]