​​Canadian heavy oil discount shrinks to lowest in more than a year

Suncor Energy's Fort Hills oilsands project. Image: Joey Podlubny/JWN

The Western Canadian Select heavy oil price is rising significantly as U.S. refining maintenance is complete, rail volumes pick up and the market responds to Alberta’s oil production curtailment plan.

Since Canada’s top oil-producing province announced mandatory output curbs on Dec. 2, the WCS spot price has surged more than 70 percent.

The grade’s discount to the U.S. benchmark has been chopped in half to around $13/bbl, the narrowest in more than a year.

Oil producers are saying the 8-day-old plan will bring “significant relief” to the province’s pipeline congestion problem, and it’s even being credited with preventing layoffs for at least one major oilsands company. The 325,000-bbl/d supply cut takes effect next month.

“It’s working -- the proof is in the price,” said Tim Pickering, chief investment officer of Auspice Capital Advisors Ltd. in Calgary. “The amount of the curtailment was enough to make a measurable difference in the glut that we have.”

The plan announced by Alberta Premier Rachel Notley probably has encouraged producers to start dialing back output because they know they can do so without putting themselves at a disadvantage to rivals, Pickering said. As oil suppliers and refiners negotiate sales for the months ahead, the Western Canadian discount may continue tightening into March, he said.

Still, uncertainty abounds. Before the production cuts were announced, companies had started to slash dividends and reduce 2019 spending plans, and it may take more than a week of stronger prices for them to reverse those moves.

Layoffs Avoided

The first signals may come this week as companies announce 2019 budgets. Capital spending among Canada’s explorers and producers may increase 5 percent in 2019, trailing the 10 percent growth in the U.S., according to a survey conducted by Evercore ISI.

Despite the survey’s results, Evercore analysts led by James West doubt Canadian capital spending will live up to the optimism expressed by executives in the survey. Canadian Natural Resources Limited last week pegged its 2019 plan at C$3.7 billion, or about C$1 billion less than it would be without ongoing market access challenges.

For other companies, the provincial output caps may have staved off drastic cuts. MEG Energy Corp. Chief Executive Officer Derek Evans said last week that the curtailment prevented the company from laying off workers and trying to “absolutely minimize” capital spending.

There are worries about longer term effects as well. The plan has stirred concerns that the government intervention adds another layer of risk for investors and weakens the relative value of companies like Suncor Energy Inc., whose significant refining capabilities had helped it better weather the price downturn, according to Randy Ollenberger, an analyst at Bank of Montreal.

The mixed sentiment is reflected in the muted response in Canadian energy shares since the curtailment announcement. The S&P/TSX Energy Index has slid about 3 percent since the policy was introduced, a period coinciding with a global market meltdown that also includes a roughly 3.3 percent drop for the broader S&P/TSX index.

“The Alberta intervention works over the short term,” Sandy Fielden, an analyst at Morningstar Inc., said in a note Monday. “A greater concern arises if Alberta doesn’t quickly remove the constraints when new pipelines come on line and becomes used to leaning on this crutch in support of higher prices longer term.”

© 2018 Bloomberg L.P

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