Glut of oil production in West Texas drives prices down

07/21/2014 4:13 PM

07/21/2014 4:14 PM

Traders are turning to trains and trucks to clear a glut of crude oil in West Texas that’s threatening to keep prices in the largest U.S. oil basin depressed for months.

West Texas Intermediate crude in Midland has averaged $7.15 a barrel less this year than the same grade in Cushing, Okla., the delivery point for New York-traded oil futures. The gap was $9 on Monday and is on pace to be the largest annual discount in data compiled by Bloomberg dating to 1991.

The price gap has emerged as directional drilling and hydraulic fracturing have nearly doubled Permian oil production in the past five years, overwhelming pipeline capacity. The glut will continue until Plains All-America Pipeline completes an 80-mile line connecting Midland to Colorado City, where larger pipes ship crude out of the region.

For now, the oil will have to be sold cheaply enough that buyers can ship it on trains to the Gulf and West Coasts, or truck it up to Cushing.

“The discounts could last longer than many in the market have anticipated given the significant production increases that are occurring in the Permian Basin,” said Andy Lipow, president of Lipow Oil Associates in Houston.

Output in the Permian, the largest onshore oil field in the U.S., has jumped 91 percent since August 2009 to 1.63 million barrels a day, according to the Energy Information Administration.

Current pipeline capacity out of the region is 1.27 million barrels a day, according to an investor presentation made this month by Irving-based Pioneer Natural Resources. Magellan Midstream Partners and Occidental Petroleum are filling a new pipeline, BridgeTex, that will add 300,000 barrels a day of space.

BridgeTex starts in Colorado City, about 80 miles northeast of Midland. Right now two pipelines connect the cities, Basin and Mesa, which can ship a combined 800,000 barrels a day. Basin extends to Cushing, carrying as much as 450,000 barrels a day, and Sunoco Logistics Partners’ West Texas Gulf line can move 400,000 barrels a day to the Houston area.

That means BridgeTex can’t relieve the glut at Midland until Plains completes the 250,000-barrel-a-day Sunrise line. Construction began May 1, according to a filing with the Texas Railroad Commission, and the company expects it to start operating in early 2015.

The new pipeline is “one of the big additions that we’re having to make, going east out of Midland, which is becoming a critical piece to feed a lot of that is basically going up to Colorado City,” Mark Gorman, executive vice president of Houston-based Plains, said in a June 5 conference call. “That corridor has completely fallen. It’s a critical corridor to feed some of the new pipeline expansions that’ll be coming on.”

Until the pipeline comes online, Midland prices will need to be discounted enough to support other forms of transportation, Rangeland Energy’s vice president for business development, Pat McGannon, said July 16 at the American Business Conference’s Permian Basin Takeaway Capacity & Product Market Conference in Houston.

Midland prices need to be about $8.50 a barrel less than Light Louisiana Sweet to make rail shipments economic, he said. The differential was $15.45 on Monday.

When Midland prices are $6 or $7 below Cushing, it can be economic to truck crude from the Permian to the Oklahoma oil hub, about 500 miles away, said Brian Melton, vice president at Blueknight Energy Partners.

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