Crude by rail's little secret

Posted by Fred Frailey
on Monday, March 16, 2015

There’s a line of reasoning that says if an oil pipeline is built, down will go rail volume. The other day I saw a PowerPoint presentation by Taylor Robinson, president of PLG Consulting, that forecasts crude-by-rail volume holding rock-steady between now and 2019, at about 800,000 barrels a day, which equals about 11 trainloads. That puzzled me—what about all those pipelines being built between now and then to siphon away that business? So we agreed to chat this afternoon. This is from our conversation.

Everything I read suggests that by next year, more pipeline capacity should be coming on line in North Dakota. Yet you are projecting level rail volumes through 2019. Can you share your line of reasoning?

Taylor Robinson: The new pipeline capacity appears to be going up but many of those may not happen. Until they are built and commissioned they are not done. Of the pipeline capacity leaving North Dakota today, only about 65% is being used.

I’ve noticed the same thing. Why is this?

The pipelines go to the Midwest or to Cushing. They’ve filled up the Midwest with light oil. It’s been flowing for a period. But at Cushing and the Gulf Coast they compete with Eagle Ford and Permian Basin oil. It’s not a fair game because their pipeline cost is even lower. Bakken oil really can’t compete on the Gulf. That’s kind of a dead market for pipelines. Crude by rail to East Coast and West Coast occurs primarily because there are no pipelines. Rail has a 60-70% share with East Coast refineries. West Coast they are sending as much as they can but terminal capacity has to go up. Eventually if they get approval for those terminals, you will have more crude going to the west.

I see signs that East Coast refineries are backing off their appetite for crude by rail. Is this because the Brent/West Texas Intermediate spread has narrowed?

It’s back to $10. That’s good for CBR. Depending on whether you calculate rail or total costs, it costs $11-15 a barrel to get oil to the East Coast – $15 is fully burdened, leases and all that. A supertanker is $2 or $3 a barrel. So you need a spread to make rail work.

What will it take for railroads to penetrate California with crude oil trains? Do you see that happening?

The loading and unloading terminals are being held up. Vancouver, Wash., will be the biggest one around. It has options to receive the crude and put it on barges for California and avoid having to build the CBR terminals. That’s a big battleground.

To keep their oil business in this era of low prices, are railroads showing any flexibility in their own pricing?

I doubt it.

None of your optimism for U.S. railroads and crude oil extends to Canada. Why will rail continue to be little more than an afterthought in Canada?

Actually, volume will pick up dramatically in the short term. It comes down to competitiveness. The math for getting oil to the Gulf Coast, the place heavy oil wants to go, is $24 a barrel by rail and $16 by pipeline $16. That’s diluted in both instances. There’s such a dramatic difference in the transportation cost. They will put in crude by rail for a couple of years to get oil out, but when pipelines come they will park the tank cars.

So your forecast rests largely on railroads continuing to find markets on the east and west coasts.

Correct. If those routes don’t work, rail volume will go down. We will have bumps along the road. Our forecast is based on West Texas Intermediate being priced in the $50s a barrel. Right now it is in the high $40s. If it goes to $40 or $30—and it may for a time—it will choke off volume.

 

So the dirty little secret is this: Pipelines from North Dakota are saturating their end points. It’s a fact that rail oil-loading capacity in the Bakken was overbuilt. But it’s also a fact that pipeline capacity is just as surely being overbuilt. And you cannot move a pipeline. But beauty of a train is that it can go just about anywhere you point it.—Fred W. Frailey

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