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An oil tanker approaches the Centennial Bridge in the Panama Canal. The U.S. is well-positioned to take advantage of opportunities in the global energy markets. (Source: Shutterstock)
DALLAS—At first glance, the strategy for managing the burgeoning oil and gas export market appears to be simple:
- Produce more product than the U.S. market can consume;
- Sell it to buyers elsewhere who need it; and
- Hire a smart accountant to keep track of all the profits that will gush in.
But issues from foreign and domestic supply/demand imbalances to trade policies complicate the export environment, speakers at Hart Energy’s recently held Midstream Finance conference told attendees.
To begin, the numbers look good. Even great.
“Gas production is reaching 83 Bcf per day by the end of 2018,” said Michael W. Hinton, chief strategy and customer officer for Allegro Development Corp. “With that, we currently have a domestic consumption of roughly 81 Bcf per day so we have a 2 Bcf per day differential that needs to find a new home.”
The surplus in NGL is about 1 million barrels per day (bbl/d) with growing demand from global customers, particularly in the emerging economies of Asia. The U.S. is the world’s No. 1 exporter of NGL, shipping an average of 600,000 bbl/d in first-half 2018 to markets in Asia and Oceania. During that period, Canada and Mexico imported an average of more than 400,000 bbl/d of U.S. NGL. In Europe, customers are busy building regasification infrastructure to handle imports of U.S. LNG and reduce their dependence on pipelined natural gas from Russia.
“We continue to ramp exports,” Hinton said. “U.S. gas plant production is continuing to increase out past 2022. With that, you can see the oncoming infrastructure to support that export activity maximized toward the end of 2018, into 2019.”
So the export market is not only a good place for the U.S. oil and gas sector to be, but also a necessary place to be.
“We have limited growth of demand in the domestic market space today,” Hinton warned. “That could change depending on if we see companies starting to build plants in the U.S. to take on those natural gas liquids to produce other products, but again, limited demand locally pointing to exporting of the natural gas liquids. The last wave of infrastructure to come on play is … supporting the export activity.”
The U.S. exporting edge relies on its strength across the oil and gas value chain.
“Even more dramatic than what’s happened on the crude side of the equation in the U.S. with the shale boom has been the related change and shift in what’s happened on the refined product trade balance in the U.S.,” John R. Auers, executive vice president of Turner, Mason & Co., told attendees. “A short time ago, the U.S. was the largest net importer of refined products in the world, peaking out at a 2.5 million barrels a day deficit in 2005. Currently, it’s the largest, by most measures, net exporter of refined products, in the world. It looks like it will continue to grow.”
Weak domestic demand forced the U.S. refining sector to pursue export markets. In the last 12 years, Auers said, developing economies have increased their demand for refined products by 18 MMbbl/d. Developed economies have reduced their demand by 4 MMbbl/d during that time, even considering the bump in the last three years derived from low prices.
Those growing markets have responded with an infrastructure building spree, he said. In India and China alone, refining capacity has almost doubled in that 12-year period. However, in the developed economies of Europe, Japan and Australia, refinery shutdowns have reduced capacity by about 3.5 MMbbl/d.
Not all developing regions are able to replicate the Asian example, though. Latin America is a case of growing demand where the refining capacity and utilization have not only failed to keep up but have declined. And it’s not because the energy sectors in those countries have ignored the need to expand their refining systems. They just can’t get it done.
“They’ve spent a lot of money trying to build and expand capacity,” Auers said. “Billions spent, still not completed.”
Venezuela, a country immersed in societal upheaval, formerly enjoyed a particularly advantageous position built by its national oil company, Petróleos de Venezuela SA (PDVSA). No longer. “Their refining system has collapsed,” he said. “It went from being the best-run national-controlled oil company to probably the worst-run. They run their refineries at 20% utilization or less and actually have to import product.”
Mexico, the single biggest destination for U.S. refined product exports, has moved in a different direction. “They’re doing the right thing by moving towards energy reform but … refinery operations have struggled because there is less support for the refining system,” said Auers. “The money is flowing more toward product distribution, toward import capabilities which are easier projects to justify.”
The country’s president-elect, Andrés Manuel López Obrador, has promised to spend $11 billion to upgrade existing refineries and build a new one but Auers is skeptical. “We don’t think there’s a prayer of that happening any time soon. They just don’t have the money.”
Even completed Middle Eastern facilities experienced difficulties with delays and cost overruns. For example:
- Al-Zour Refinery in Kuwait (completion expected in 2020): $5 billion over budget, seven years late;
- Yanbu Refinery in Saudi Arabia (completed in 2016): $4 billion over budget;
- Jubail Refinery in Saudi Arabia (completed in 2013): $6 billion over budget; and
- Jazan Refinery in Saudi Arabia (completed in 2017): $2 billion over budget; two to three years late.
Enter the U.S. downstream sector. The world-beater has shown itself to be particularly adept at rising to the challenge of remaining competitive where others have struggled.
“The U.S. refining industry has developed into one of the most competitive refining industries in the world,” Auers said. “A lot of it has been underpinned by the free market environment which we operate in. That’s not the case in many other areas. Despite what it seems like sometimes, even this election season, we have a fairly stable political environment and economic environment.”
Equipment upgrades have made refineries bigger, more efficient and more capable. They can handle harder-to-process crudes, including heavy, sour crude, and turn them into higher-yield products. U.S. facilities boast higher utilization rates on a more reliable basis than refinery systems anywhere else in the world. The industry has accomplished this despite comparatively high wage rates and is able to operate refineries much more efficiently than in other countries.
With all these advantages piled up in the U.S. corner, why worry? Among the challenges: taking care of the world’s supply/demand balance begins at home.
U.S. supply capacity is stressed to meet local demands, said Hinton, pointing to the natural gas situation on the East Coast. There is a limited capacity to deliver gas into areas such as New England by pipeline. While most of the country has taken advantage of lower gas prices because of supply and infrastructure, the East Coast has been vulnerable to price spikes for several reasons.
“The East Coast is continuing to rely more heavily on a single fuel [natural gas] for the producing of power, so it’s creating additional demand along with the domestic demand,” he said. Extreme weather events such as winter storms, combined with population growth have resulted in extreme price volatility.
Will the East Coast constraint issues escalate as the U.S. becomes more exposed to the global market? “That I don’t know,” Hinton admitted, “but I know that as we continue to increase the demand for our products, it’s going to introduce volatility.”
And that volatility will not be restricted to a single link in the value chain. As demand seesaws and takes prices along with it, producers of commodities as well as those who transport and process them can be affected. The volatility could also influence exposure to counterparties. Anyone doing business with a player affected by extreme price swings will feel the impact. Include infrastructure investors in that category. How much is enough? How much is too much? Miscalculations could result in underutilized and less-profitable, or unprofitable, facilities.
Auers pointed to the risk of a growing dependency on export markets. Saturation in traditional markets could force exporters to pursue new markets where the U.S. has fewer advantages and more competition. There remains the risk that other countries will attempt to develop their own refining sectors, which could result in global overbuilding. Escalating trade tensions, particularly with China, also could dampen worldwide demand.
“How do we navigate that uncertainty?” Hinton asked. “That’s really the key.”
Joseph Markman can be reached at jmarkman@hartenergy.com or @JHMarkman.
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