How to Profit From Canada's Crude Oil Shortage

Yes, you read that headline correctly. In spite of surging production from the Alberta oil sands, Canada is in the midst of an oil shortage. But for the savvy investor, this represents a potentially profitable opportunity. 

The condensate conundrum
North of the border, energy production is surging. According to the Canadian Association of Petroleum Producers, bitumen output from the Alberta oil sands is projected to double by 2022 to 3.8 million barrels per day. The problem with bitumen is that it's too thick to flow freely on its own. It must be mixed with a super-light oil called condensate so that it can be shipped through pipelines.

With growing oil sands production, condensate demand is poised to sky-rocket as well. Based on estimates provided by the Energy Resource Conservation Board, the demand for condensate in Alberta could double to 650,000 bpd within the next decade. Today, condensate is the most prized hydrocarbon in Alberta with the light oil trading for a 10% premium over West Texas Intermediate. Analysts fear shortages could result as imports struggle to keep up with demand. 

Yet south of the 49th parallel, the United States is facing a condensate glut. In the Texas Eagle Ford, condensate production accounts for as much as 30% of output. With forecasters projecting Eagle Ford production to exceed one million barrels per day by next year, much of that will be condensate. 

But here's the problem. Nearby Gulf coast refineries aren't well equipped to handle the super light oil bubbling out of the Texas shale. Over the last decade, refineries spent billions of dollars outfitting their plants to process heavy sour blends. Additionally, refining condensate isn't profitable. The light oil doesn't produce the higher value distillates used to make diesel or jet fuel. 

So with an unexpected surge in condensate production and low demand from refineries, you have a recipe for low prices. In general, Gulf coast refineries have been paying $15 per barrel less for condensate than light oil varieties. That's great for downstream marketers. But that discount is coming right out of the pockets of shale producers. 

Canada needs condensate. The U.S. has too much of the stuff. The challenge is moving it. 

Who's poised to profit
At the moment, the only way to export condensate to Canada is through the Enbridge  (NYSE: ENB  ) Southern Lights pipeline which transports 180,000 bpd from Illinois to Alberta. The problem is shipping condensate from Texas to Patoka, Illinois where the line begins. 

Kinder Morgan Energy Partners  (NYSE: KMP  )  is trying to position itself as the leading condensate shipper. The company built a condensate pipeline that can move 300,000 bpd from the shale basin to the Houston area. From Houston, condensate can be shipped through a third-party Explorer pipeline to Hammond, Illinois. 

Admittedly Illinois is still on long way from northern Alberta. To get the condensate the rest of the way Kinder Morgan has two strategies. First, extend the Explorer pipeline to connect with Southern Lights. That link should be in service by 2014. Second, connect Explorer to the company's existing Cochin pipeline. Propane volumes along the route have been in decline anyway. The company is looking to reverse and expand Cochin to start shipping condensate to Alberta. 

Source: Kinder Morgan

Other midstream companies are trying to exploit surging Eagle Ford production as well. Plains All American is using its port in St. James, Louisiana to route Eagle Ford production into its Capline pipeline for shipment to Patoka. Magellan Midstream Partners  (NYSE: MMP  )  is spending $100 million to build a 140 mile condensate pipeline to Corpus Christi. The project will have 100,000 bpd of capacity and is expected to be fully operational by the end of this quarter. 

Foolish bottom line
Much has been made about the lack of pipeline capacity southbound from Canada. But there's an equally pressing need to ship light oil north from Texas. Once again, it will be the midstream shippers poised to profit from this opportunity. 

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