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Fixing the Permian mismatch: Upstream growth and mid-stream takeaway capacity

13 June 2018 Jim Burkhard

What happens in the Permian Basin of West Texas and New Mexico reverberates through oil markets around the world-even all the way to the region's namesake, Perm, Russia. The new IHS Markit outlook for the Permian to 2023 projects crude oil production could reach 5.4 million barrels per day (MMb/d) in 2023-up 2.9 MMb/d from 2017. This increment of growth is higher than the current entire output of Kuwait.

But such growth is not guaranteed. The Permian's reach may have gone global, but local factors will still determine the score as to whether it meets its full potential.

In this case, the urgent challenge is the need for more pipeline takeaway capacity. An indicator of this need is the price differential between WTI at Midland, Texas-the heart of the Permian oil business-and other light sweet crudes. For example: Light Louisiana Sweet (LLS), which is priced at the St. James, LA trading hub. Since late May, WTI crude oil at Midland has been priced $17 to $20 per barrel less than LLS. As recently as March the price difference had been just $3 per barrel. So, why the drastic change? Pipeline capacity for transporting Permian crude has become very tight and more expensive alternative means of transport were needed to pick up the slack. Higher transportation costs mean that WTI at Midland needs to be priced lower to compete with other crudes on the coast.

During the past several years, the Permian Basin has required regular infrastructure investments-most notably additions to pipeline takeaway-to keep up with its prolific crude oil supply growth. Although the region has several refineries, total capacity is limited to about 600,000 b/d. The rest must be shipped to various end markets.

Since 2013 the focus has been on adding new large diameter pipeline capacity to ship Permian crude to various Gulf Coast terminals. About 1.8 MMb/d of takeaway capacity has been added during that time through a combination of expansions of legacy systems and new-build lines (most recently including Enterprise Products Partners' [EPD] 585,000 b/d pipeline from Midland to Houston, which began operations in late 2017). However, production has been rising so rapidly that output is again nearing the limits of existing pipeline capacity. The result is a predictable one-i.e. price discounts.

There is also a larger dynamic at play. The current infrastructure squeeze in the Permian illustrates the mismatch between upstream oil producers seeking fast growth and midstream players that need sustained high utilization of infrastructure over decades. This is not the first time such a dynamic has led to price discounts. The same has occurred at times in other areas, such as the Bakken in North Dakota and Appalachian gas.

Indeed, even Midland price dislocations are nothing new. From 2011 to 2014, Midland prices regularly fell anywhere from $15/bbl to as much as $40/bb below Gulf Coast prices as incremental pipeline capacity lagged.

This latest period of very tight or insufficient pipeline takeaway capacity and Permian pricing weakness looks like it could be especially lengthy, potentially lasting the better part of a year. Four large new pipeline projects are under way, with a combined capacity out of the Permian of 2.4 MMb/d. However, the first of these to market will not stream until second half 2019. Adding this takeaway capacity (including more gas pipelines) is key to the Permian realizing its growth potential-and adding the equivalent of "Kuwait" to the US oil production system.

Jim Burkhard is Vice President of Research at IHS Markit.

Posted 13 June 2018

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