Say Goodbye to Dirt Cheap Canadian Oil

For years U.S. drivers have been getting a gift at the expense of their northern neighbor—artificially cheap oil. That could change in the coming months when a major pipeline expansion will allow Canadian oil more access to global markets.
For years U.S. drivers have been getting a gift at the expense of their northern neighbor—artificially cheap oil. That could change in the coming months when a major pipeline expansion will allow Canadian oil more access to global markets.

Summary

Don’t cry for U.S. refiners, who will be fine without it—for now.

For years U.S. drivers have been getting a gift at the expense of their northern neighbor—artificially cheap oil. That could change in the coming months when a major pipeline expansion will allow Canadian oil more access to global markets. How will it impact the main beneficiaries of that yearslong glut, U.S. refiners that pocketed much of the difference?

The U.S. imports about 4 million barrels a day of Canadian crude oil, which represents more than a fifth of the country’s operating refining capacity. Western Canadian Select was on average about $18 to $19 a barrel cheaper than the U.S. benchmark West Texas Intermediate in 2022 and 2023, according to data from the Alberta Energy Regulator. Part of that discount is because the WCS is a heavier blend that requires more processing and involves higher operating costs, but lack of pipeline capacity was another reason.

That will change in the coming months when Canada opens up its expanded Trans Mountain pipeline, adding 590,000 barrels-a-day of takeaway capacity. Startup is expected in the second quarter, according to a spokesperson for the project. The expanded capacity is expected to start up gradually, which should prevent sudden price surges, according to John Auers, managing director of refined fuel analytics at RBN Energy.

The expansion’s impact depends on where in the U.S. the refinery is located. The pipeline, which runs from Edmonton, Alberta, to Vancouver, should be a net benefit for West Coast refiners. Although Canadian crude isn’t a perfect substitute for California or Alaskan crudes, most refiners on the West Coast can handle medium to heavy sour crude, notes Roger Read, equity analyst at Wells Fargo. “What the pipeline [expansion] is doing is increasing competition in the West Coast," he said.

For West Coast refiners, Canadian crude involves cheaper shipping costs than those from Alaska. Oil from Canada can be shipped in using internationally flagged tankers, which involve cheaper transportation costs than Jones Act—domestically built, owned and crewed—tankers that must be used when shipping oil from Alaska.

The biggest negative impact will be on inland refineries such as those in the Midwest using Canadian crude because they don’t have easy access to other types of heavy crude. Refiners on the Gulf Coast have the option of importing heavy crudes from Mexico and Venezuela.

Are there clear corporate winners or losers? Because refining giants such as Valero, Phillips 66 and Marathon Petroleum operate throughout the U.S., including the West Coast, the rise in Canadian crude prices could end up having a neutral impact on those companies, Read said. One clear winner is PBF Energy. The company doesn’t run any Canadian crude in their midcontinent or Gulf Coast facilities but will get the benefit of cheaper Canadian crude on the West Coast, according to Read.

In any case, strong refining economics should help pad the impact, according to Matthew Blair, equity analyst at TPH & Co. Gasoline and diesel cracks, a proxy for how much a refiner can expect to make for converting a barrel of crude for those products, have risen $3.78 a barrel for gasoline and $4.98 a barrel for diesel year to date. That is partly because U.S. refiners are running at a low utilization after a season of heavy maintenance. They were running at about 81% of operable capacity as of the week ended Feb. 9, the lowest for this time of year since 2010, according to the U.S. Energy Information Administration. Cheap natural-gas prices have also been a tailwind for U.S. refiner margins.

Another coming offset: LyondellBasell Industries’ 268,000 barrel-a-day Houston refinery, a heavy user of Canadian crude, is set to close down early next year. Over the longer term, healthy production growth from Canada could cheapen WCS crude. As of December, Alberta’s oil production had risen about 12%, or 442,000 barrels a day, compared with December 2019, the year when the Canadian government approved the expansion. In recent years, Canadian producers have found efficiencies and ways to grow production with modest investments, according to industry analysts. And, just as in the U.S., incremental pipeline capacity is hard to come by in Canada given how politically charged such projects can get.

The windfall from Canada’s glut will be missed, but it shouldn’t be a shock to the system.

Write to Jinjoo Lee at jinjoo.lee@wsj.com

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