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Oil Is Hot Again, But For How Long?

Oil Is Hot Again, But For How Long?

From the pariah of industries…

Irina Slav

Irina Slav

Irina is a writer for Oilprice.com with over a decade of experience writing on the oil and gas industry.

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Heavy Crude: From Glut To Shortage

Just a few months ago Canadian heavy crude oil producers were sending their product to storage amid a painfully deep price discount to West Texas Intermediate that ate into their margins. Chinese refiners took advantage of the cheap Canadian crude and stocked up as well while it was cheap. Now, some are worrying about a shortage of heavy crude that would interfere with the operations of Gulf Coast refineries that process more than 50 percent of the world’s heavy crude oil.

Bloomberg reports some heavy crude grades such as Heavy Louisiana Sweet are already trading at a premium to lighter and typically more expensive grades because of this concern, which seems like it has further to grow. Others are shrinking their discount to Brent and WTI.

In December, Alberta’s Premier Rachel Notley ordered a crude oil production cut in the province of 325,000 bpd to clear up stockpiles and prop up the price of the local benchmark. This worked even before the cuts entered into effect, which was at the beginning of this month, but it also coincided with OPEC’s latest production cut agreement. More notably, it coincided with Saudi Arabia’s early production cut start.

“Historically, when the Saudis have cut output, it’s heavy and medium crude,” a senior analyst from consultancy Turner Mason & Co. told Bloomberg’s Robert Tuttle and Sheela Toben. This means lower heavy crude production in Canada has combined with the consistent decline in Venezuelan oil output, unlikely to be reversed in the observable future, and now with expected lower heavy and medium crude production from Saudi Arabia. No wonder prices are spiking. Related: Fears Of U.S. Shale Demise May Be Overblown

Heavy crude, according to Bloomberg, accounts for a tenth of the feedstock of refineries around the world. Asian refiners will suffer from the shortage just as much as their U.S. counterparts if it materializes, if not more. But it will also present an opportunity for alternative suppliers of heavy crude, such as Mexican producers if the premium of the usual supplies goes high enough to make these alternative sources of crude competitive. Russia is also a large producer of heavy crude and well positioned to up its deliveries to Asian markets.

While analysts expect the rally to be temporary as the refining industry gears up for the new, low-sulfur bunkering rules of the International Maritime Organization, it has certainly highlighted Canada’s pipeline conundrum. There is robust demand for Canadian heavy crude from U.S. refiners, but not enough capacity to transport it across North America to the Gulf Coast cheaply. The good news for Canadian producers is that cheap or not, if the refineries need it, the refiners will buy it.

The news is good for Saudi Arabia as well, as whatever heavy crude it produces will fetch more per barrel than before. Venezuela, however, is in no position to enjoy higher revenues as most of the oil it exports heads for China and Russia under cash-for-oil agreements signed in the past. Mexico would also reap some benefits despite plans by the new government to refine more crude locally than export it: these are long-term plans that need refining capacity. In short, stakeholders set to benefit from the price rise in heavy crude will likely try to make the best of it while it lasts.

By Irina Slav for Oilprice.com

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