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Buffett Wins Big From Railroad Crude Shipments

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While the North American energy boom has boosted oil and gas production to record levels, companies have run into major difficulties with respect to transport. Major oil production centers, like North Dakota's Bakken Shale and Alberta's oil sands, remain grossly underserved by pipelines.

Largely as a result of this state, prices for crude oil extracted from these locations have been severely depressed. Until very recently, Bakken crude traded at a substantial discount to the main domestic crude benchmark, West Texas Intermediate (WTI), while crude produced from Canada's oil sands continues to trade at a nearly $30 discount to WTI.

But energy companies are highly resourceful. Spotting the tremendous opportunity in these wide price disparities, they've increasingly turned toward other methods of transporting crude oil. Even legendary investor Warren Buffett is cashing in on this trend.

Let's take a look at how some of these alternative transport options are quickly displacing pipelines as the main source of outbound capacity from key North American resource plays.

Buffett rides the rails to profits
Over the past year or so, one of the most intriguing developments in the energy space with regard to oil and gas transportation has been the accelerated use of railcars and barges. Warren Buffett is one of the more famous investors to have reaped the rewards from this trend, through his purchase of Burlington Northern Santa Fe Corp., one of the largest railroad companies in the U.S.

When he bought Burlington Northern back in 2009, he said the investment was a bet on the future of the the railroad industry and the company itself, but also a bet on the future direction of the U.S. economy. Given the rapid rise in the importance of rail transport in shipping crude oil, it turned out to be a great decision. Of the nearly 750,000 barrels per day of crude oil produced in the Bakken in October last year, an estimated 52% was transported via rail, as compared to 38% through pipelines.

Railroads displacing pipelines in Bakken
As the biggest rail-car shipper in the Bakken, Burlington Northern continues to enjoy high demand for crude oil shipments, which more than offset declines in coal shipment volumes. By the end of this year, the company expects to increase crude oil shipments by some 40% to 700,000 barrels per day. Burlington's outlook highlights the fact that rail transport has quickly gained competitiveness against pipelines.

While shipment costs for rail tend to be higher, it offers greater flexibility and can transport oil to distant markets that are inaccessible via pipeline. Railcars have become so popular in the Bakken, in fact, that they are now giving Enbridge's (NYSE: ENB  ) North Dakota pipeline system a run for its money.

In recent months, Enbridge's pipeline system, which can move some 210,000 barrels a day from Minot, N.D., to Clearbrook, Minn., has been losing volumes to railcars. According to a company spokesman, Enbridge is "seeing reduced volumes on our North Dakota system as some producers seek alternate transportation options to take advantage of favorable oil pricing in other markets."

Canadian crude finds its way to U.S. refineries via rail and barge
Another major North American oil production center that is also being serviced by railroad shipments is Alberta's oil sands. Growing volumes of bituminous coal are seeing high demand from U.S. refiners, who are seeking to capitalize on the massive price disparity between Canadian crude and American inland crude.

Currently, heavier Canadian crudes such as Western Canada Select trade at a nearly $30 discount to WTI, providing a lucrative arbitrage opportunity for refiners that can gain access. For instance, Marathon Petroleum (NYSE: MPC  ) recently expanded its Detroit refinery's capacity by 13%, in order to process greater quantities of Canadian crude.

Tesoro (NYSE: TSO  ) is also looking for ways to get more Canadian crude delivered to its refineries in California. The company's Los Angeles refinery, which is operating at a capacity of 97,000 barrels per day, is especially well-suited to process heavier crudes, such as those from Alberta's oil sands. The company is currently looking into shipping oil from Canada to the U.S. Pacific Northwest using barges, and then shipping it via rail to its California refineries.

Phillips 66 (NYSE: PSX  ) also recently started to use rail transport to move Canadian crude to its refineries in California. The company is no stranger to using rail, having already purchased some 2,000 general purpose railcars to transport domestic oil to its refineries.

Even Gulf Coast players are making use of rail, despite the flurry of pipelines that will soon bring a flood of cheap domestic light oil to their refineries' doors. For instance, Valero (NYSE: VLO  ) is planning on making greater use of rail and barge transport to move Canadian crude to its Gulf Coast refineries. The company expects to ship more Canadian oil via barge to its refinery in St. Charles, La.

And it's not just refiners who are investing heavily in rail transport for shipping crude oil. Midstream companies see opportunity, as well. For instance, Plains All American (NYSE: PAA  ) , one of the largest pipeline operators in the country, is currently finishing up a rail terminal in Virginia that's expected to receive up to 160,000 barrels per day of Bakken crude by the second half of this year.

Final thoughts
While rail transport is likely to remain in high demand in the nearer term, major new pipelines will eventually be built to link Alberta oil sands and Bakken production to refining centers in the U.S. One of the largest and most controversial of these projects is the proposed Keystone XL pipeline.

Operated by TransCanada (NYSE: TRP  ) , Keystone would transport crude from Canada's oil sands to Steele City, Neb., from where it could be moved to refineries along the U.S. Gulf Coast. With a projected capacity of 830,000 barrels per day, Keystone XL would be a game changer if completed, though it has faced significant opposition from environmentalists and climate change campaigners.

However, that could soon change, thanks to the recently released results of a study conducted by the U.S. State Department that assessed Keystone's environmental and economic impact, among other considerations. The study concluded that the pipeline's environmental impact would not be as bad as several environmental groups claim and that its construction would have just a marginal impact on greenhouse gas emissions.

Whether or not Keystone XL is approved by the U.S. State Department, improvements in pipeline infrastructure will be a defining trend in North America's energy landscape over the next several years. And one that astute investors would be wise to follow. Enterprise Products Partners, the nation's largest publicly traded energy partnership, is at the forefront of this trend and is investing heavily in pipeline infrastructure that will serve the nation's energy companies for decades into the future. To help investors decide whether Enterprise Products Partners is a buy or a sell today, click here now to check out The Motley Fool's brand-new premium research report on the company.

Read/Post Comments (10) | Recommend This Article (15)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On March 09, 2013, at 10:35 AM, cantbelieveit wrote:

    Anyone out there remember Obama Buffett's BFF blocking an oil pipeline???? Gee wonder why he made so much money shipping oil by rail????

  • Report this Comment On March 09, 2013, at 10:47 AM, marke54805 wrote:

    There's a train wreck waiting to happen!

  • Report this Comment On March 09, 2013, at 12:10 PM, fpl1953 wrote:

    The Keystone XL pipeline is well on the way to completion in Texas. The Texas portion will probably finish in the next 90 days. It doesn't stop in Nebraska and the main goal is supply tar sands crude to a Koch brothers refinery in Port Arthur to be refined into jet fuel for Venezuela (I think Venezuela but I know it's for somewhere in South America). It says a lot for the confidence the Koch brothers have in the long term demand for oil. This oil is about the most difficult and expense to ship and refine oil in existence. I'm sure the pipeline won't break even for the first few years. Billionaires with special priviledges from many governments don't have to take any risk, so if they see this as a worthy investment, for the rest of us it means don't sell your XOM and CVX quite yet!

  • Report this Comment On March 09, 2013, at 12:58 PM, BiGGIsmalls wrote:

    I work for BNSF. Has anyone every wondered why Obama is against the Pipeline? Take a look at who owns BNSF, Buffet. There's your answer. The longer it takes to get this Pipeline going the more money Buffet makes. Obama is simply paying back Buffet for his support. Pretty sad that the country can have 1000's of jobs, but Mr Obama feels he needs to take care of his rich buddy first.

  • Report this Comment On March 09, 2013, at 6:02 PM, NaturallyCurious wrote:

    In an effort to be nice about it, we all know why Obama objected to the Keystone pipeline about the same time as he received a large contribution from Buffet as well as his endorsement.

    We also know whom the refined oil is going to in South America and his first name is George. For someone whom has never owned a business, nor held a job in the private sector that paid C.E.O. type salaries/bonuses, Obama has certainly amassed a relatively large fortune and it certainly did not come from the sale of his books. It is hard to conceive how anyone can buy a $50 millin dollar mansion in Hawaii on a $400,000 a year salary(?).

  • Report this Comment On March 09, 2013, at 6:33 PM, ortho1g wrote:

    why do you think warren bought gm

  • Report this Comment On March 09, 2013, at 6:46 PM, JTMAZ wrote:

    “Buffett wins big from railroad crude shipments” I thought this was a headline from the Onion.

    Bet. Bet on the future of the railroad industry?

    Burlington has not “gained competitiveness against pipelines.”, but rather a protection from additional pipelines.

    Environment: In the interest of the environment, we prefer to transport crude via our railways which meander along our precious rivers and streams and when further northwest we prefer to utilize the ocean for transport and then hop back on land and rails for the remainder of journey

    As opposed to the inherently riskier:

    Transporting of crude in a stationary cylinder that allows it to meander through our vast, expansive interior that is the Midwest.

    Keystone Pipeline. Jobs, Infrastructure, (real infrastructure) and real energy jobs unlike manufactured gov't propped, failing wind, solar etc.

    And the Keystone XL is “controversial” ? Controversial by what standard? By the environmentalists standard? Environmental impact? Transport by rail and barge is preferable and healthier for the environment than transport by stationary, zero carbon footprint object?

    Energy companies are creative and will utilize other forms of transport. More expensive, but available, the railroads. Great, 2013 production and 19th century logistics.

  • Report this Comment On March 09, 2013, at 7:14 PM, budsauce wrote:

    ya I think we need to go back to the president that holds hands with the Saudi s those billionaires are a lot better than our billionaires. go pubs go

  • Report this Comment On March 10, 2013, at 5:03 AM, jpmj wrote:

    If we miss the boat on this oil / gas boom shame on all of us. Please let everyone pull together, and why should we depend on other countries? The USA has the superior infrastructure. Why do you think our Native Americans settled along waterways, on fertile lands, and then came the R.R. tracks. And yes, Mr. Buffitt write your manifesto to American / World History. jpmj4847

  • Report this Comment On March 10, 2013, at 9:34 PM, biff12 wrote:

    Yes, they're calling the route "The John Galt Line"

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