Permian Basin bottleneck: Natural gas pipeline to be converted to carry crude oil

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The developer of the private equity-backed EPIC natural gas liquids pipeline will temporarily convert the conduit to carry crude oil as bottlenecks in America’s hottest shale play threaten to curtail production.

Oil service on the third and final phase of EPIC Midstream Holdings LP’s NGL pipeline is expected to start in the third quarter of next year, the company said in a statement Friday. That would offer interim relief to producers in the prolific Permian Basin of West Texas and New Mexico, a region facing a dearth of pipeline capacity until late 2019, when new projects are expected to enter service.

The pipeline crunch is forcing Permian producers to sell crude locally at a steep discount to prices on the Gulf Coast. Oil sold in Midland, in the heart of the play, for $15.60 a barrel less than in Houston on Friday, after starting the year at a $3.40 discount. That comes as output in the basin soars, with researcher IHS Markit predicting supply will reach 5.4 million barrels a day by 2023 — more than every OPEC country except Saudi Arabia.

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With the conversion, EPIC should be “the first of the five-pipeline ‘wall of capacity’ that will come onstream in 2019 and 2020,” Paul Sankey, a managing director at Mizuho Securities USA LLC, said in a note to clients. The surge of pipeline space will result in about 1.5 million barrels a day of excess capacity, he said, which will take two to three years of production growth to fill.

EPIC’s NGL system will be able to carry 400,000 barrels per day of crude until its oil pipeline, which will run alongside the NGL line, enters service by January 2020. The company had previously said the crude pipeline would enter service in the second half of 2019.

While the additional capacity won’t fully solve the Permian’s pipeline woes, “it will come close,” RBC Capital Markets LLC analyst Brad Heffern said in a note to clients. The start of Plains All American Pipeline LP’s Cactus II conduit, expected to begin flowing oil in the third quarter of next year, “should fully solve things.”

That will come at the expense of refiners like Delek US Holdings Inc. and HollyFrontier Corp. that have been benefiting from cheap oil in Midland, he said.

Relief for Permian producers should narrow the gap between West Texas Intermediate, the U.S. crude benchmark, and Brent, the global benchmark, said Jason Gabelman, vice president at Cowen and Company LLC. A barrel of WTI was about $10 cheaper than a barrel of Brent Friday in Houston.

Still, Piper Jaffray Cos. analysts led by Kashy Harrison said the timing of the conversion and subsequent crude pipeline was “modestly negative” compared with market expectations. Analysts had predicted a conversion would take place in the second quarter of 2019, with the oil pipeline coming online in the fourth quarter.

EPIC also said Friday it had received enough commitments to expand the crude pipeline to transport 600,000 barrels per day, with the ability to increase capacity to 900,000 barrels per day.

Noble Energy Inc., Apache Corp. and Diamondback Energy Inc., shippers on the crude pipeline, will have service on the converted liquids pipeline. Both the NGL and crude pipeline are backed by Ares Management LP’s private equity group.

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