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Bakken crude continues to slip relative to WTI Cushing

2013.07.02 - WTI-BakkenEnlarge Graph

  • A huge surge in oil production in North Dakota has caused differentials between Bakken crude and WTI Midland crude to fluctuate and blow out at several points over the past several years as takeaway structure had lagged production.
  • Recently, the differential between Bakken and WTI crudes had stabilized and closed in as newly finished infrastructure has come online. Bakken differentials to WTI had generally remained below $2.00/barrel since March, signaling sufficient takeaway capacity from the basin. Additionally, usage of rail rather than pipelines into Cushing, have allowed Bakken crude to reach refining markets without having to pass through a crowded hub.
  • More stable Bakken based crude prices and a lesser risk of the differential blowing out to ~$20+/barrel again is a positive for producers operating in the region.
  • In the past week Bakken crude dropped slightly relative to WTI Cushing, in a negative catalyst for producers with Bakken assets such as Continental Resources (CLR), Whiting Petroleum (WLL), and Kodiak Oil and Gas (KOG). However, the spread remains relatively tight, signaling sufficient takeaway capacity in the region.

For the week ended June 28, Bakken crude closed $3.00/barrel below crude at WTI Cushing, a change of $2.00/barrel from the prior week when Bakken traded $1.00/barrel below WTI Cushing. This is a negative factor for producers with Bakken assets as they are receiving lower prices for their oil.

Over the past several years, oil production in the Bakken Shale/Williston Basin in North Dakota has increased rapidly. For example, production in April 2013 reached 727,150 barrels per day compared to 546,840 barrels per day in April 2012 and 285,190 barrels per day in April 2011.

2013.07.02 - ND ProductionEnlarge Graph

With the surge in oil production came a huge need for oil takeaway infrastructure; however, the completion of infrastructure had struggled to keep up with the growth in production. This caused the price of Bakken crude to lag significantly behind WTI crude at some points over the past few years. Notably, in early 2012, the differential increased to as much as $27.50/barrel.

However, the spread has closed in dramatically since then as companies have successfully found other ways, such as rail, to transport crude out of the area. According to an article by the US Energy Information Administration, “Pipelines are the most cost-effective way to transport crude oil in the United States, but they are expensive to build and may face regulatory hurdles. For these reasons, companies have turned to rail transport to deliver crude oil across the nation.” The surge in Bakken production demanded a quick and efficient takeaway solution and so rail capacity out of the area has greatly increased and this addition of infrastructure in the region has allowed Bakken crude to reach refining markets on the East Coast, West Coast, and Gulf Coast.

For example, during Continental Resources’ (a major Bakken operator) 4Q12 earnings call management noted, “… a fundamental change occurred in the (Williston) Basin with the emergence of multiple true rail markets, new loading facilities across the play, and the proliferation of offloading facilities at end user refineries on all three coasts. Logistical bottlenecks created market opportunities, allowing rail capacity to grow and become the primary mode of shipment out of Bakken… Now that capacity exceeds production and competitive markets are enabled, Continental has increased rail utilization and has access to refineries and markets throughout the US… During the year, we grew rail shipments to 72% of our Bakken oil in December from a starting point of 46% in January. As an industry, we’re displacing high-priced foreign crude on all three coasts, and by switching to low sulfur Bakken crude, refineries can potentially help meet stricter clean air standards… With the expected reduced volatility and now improved visibility and access to… infrastructure, we are narrowing and lowering our 2013 guidance range for differentials to $5-7 off WTI. This represents a 37% improvement on our previous estimates.” Additionally, on the company’s 1Q13 call, management noted, “First quarter average oil differential was $4.29 per barrel below and favorable to our 2013 guidance range of $5 to $7 for the year. In the first quarter, approximately 80% of our operated Bakken wells were railed out of the basin. Recently, we’ve seen a narrowing of the Brent/WTI spread, which is bringing the rail option into rough parity with pipeline alternatives.” As Continental noted, capacity is keeping pace with production.

From a short-term perspective, the spread changed by $2.00/barrel over the week (with Bakken moving lower relative to WTI Cushing) which was a negative catalyst for producers in the region. However, over the medium to long term, increased infrastructure has allowed for differentials to close and stabilize and has even spurred major Bakken operators such as Continental Resources (CLR) to change guidance on its realized differentials to be closer to WTI. These developments are medium-term positive catalysts for other operators in the region, such as Whiting Petroleum (WLL), Kodiak Oil & Gas (KOG), and XTO Energy (part of Exxon Mobil, XOM) and indeed over the medium-term the spread had closed in to trade around par where it was trading as wide as $10/barrel in October 2012, and as wide as $27/barrel in February 2012. Exposure to these assets can also be attained via a passive index ETF like the Energy Select Sector SPDR ETF (XLE).