Western Canadian Select Explained
There are dozens of different crude oil streams produced in Western Canada, each with varying degrees of quality and grade. Since different grades of petroleum products cannot be mixed, these different streams require separate pipelines and separate storage facilities, creating a marketing and distribution nightmare. In order to address these challenges, 4 heavy oil producers (Suncor, Cenovus, Canadian Natural Resources and the former Talisman Energy) came together in 2004 and developed a Western Canadian Select (WCS) blend, the largest heavy oil benchmark in North America produced exclusively in Western Canada.
Western Canadian Select is comprised of:
- 20 heavy conventional oil streams produced in Western Canada
- Athabasca bitumen from the Alberta oil sands
- upgraded bitumen, sometimes referred to as light synthetic crude oil (SCO) and
- condensate, which is added to meet pipeline viscosity requirements.
The various streams are blended at a storage terminal in Hardisty, Alberta to the following specifications:
- API density: 20.5 to 21.5°
- Sulphur content: 3.0 to 3.5% w/w
- Density: 925 to 935 kg/m³
The Hardisty terminal is located 200 km SE of Edmonton. WCS blending, storage and distribution is managed by Husky Energy.
HOW HEAVY IS WESTERN CANADIAN SELECT?
Crude oil streams are classified according to specific gravity (measured on the API scale) and impurity content, particularly sulphur. The API scale is as follows:
The term "sweet" refers to crudes that are low in sulphur (<0.5%) whereas "sour" refers to a crude oil that has a high sulphur content. Athabasca bitumen is extra heavy, having an API density below 10°. Western Canadian Select is on the high end of heavy, bordering on medium. All heavy oil streams derived from the oil sands are sour. Upgraded bitumen is light and virtually sulphur-free (sweet).
WCS VERSUS OTHER CRUDE OIL STREAMS
There are over 300 benchmark streams of crude oil produced around the world. The most commonly referenced US benchmark is West Texas Intermediate (WTI), priced out of Cushing, Oklahoma. WTI is lighter and sweeter than the international benchmark, North Sea Brent, which is priced out of Sullom Voe, Scotland.
Two popular Canadian benckmarks are Edmonton Par and Western Canadian Select. WCS is a heavy sour blend, the largest heavy oil stream in North America. Edmonton Par is a light crude, similar in quality to WTI. Shown below is a snapshot of the most common North American benchmarks and several foreign imports.
The average API density of crudes imported into the US is between 20 and 25° (heavy to medium), very similar to the density of Western Canadian Select. In contrast, the average API density of crude oil produced in the US is 40 to 45°. US refineries therefore balance out very light domestic oil with heavy foreign imports.
CANADIAN HEAVY OIL PRODUCTION
Almost 80% of Western Canada's oil production is heavy, representing about 2.8 million bbl/day. A majority of this oil is heavy sour crude from the oil sands. About 400,000 bbl/day of heavy oil is produced from conventional wells.
About 35% of Alberta's heavy oil is upgraded into light synthetic sweet crude oil (SCO). Two examples of synthetic crude from the oil sands are Syncrude Sweet and Albian Premium Blend, both ultra-low in sulphur and comparable in quality to WTI.
The remaining 65% of Western Canada's heavy oil is blended and sold to market (primarily the US) as heavy sour crude. This includes Western Canadian Select, diluted bitumen and heavy oil produced from conventional wells. These streams are closest in quality to Mayan heavy crude produced in Mexico.
Canada produced almost 4 million bbl/day of crude oil at the end of 2015 and exported about 3 million bbl/day. Since Canadians consume about 2 million bbl/day of oil, the country needs to import almost 1 million bbl/day into East Coast refineries. The recent reversal of the Enbridge Line 9 is helping reduce foreign oil imports into Ontario and Quebec.
THE MARKET FOR CANADIAN HEAVY OIL
About 95% of Canada's heavy oil is exported to the US. This includes conventional heavy oil, diluted bitumen and Western Canadian Select. In contrast, about 70% of upgraded bitumen is destined for US refineries. A majority of Canada's conventional light production is processed in Canadian refineries.
(Source: NEB Q3/15, incl. WCS & Conv)
(Source: NEB Q3/15)
Over 60% of Canada's oil exports are destined for PADD II refineries in the US Midwest. There are 26 refineries in the PADD II area which is centred around Chicago, IL. The region has a refining capacity of approximately 3.8 million bbl/day.
PADD III refineries in the US Gulf Coast previously sourced most of their heavy oil from Venezuela and Mexico. Since both countries have declining production profiles, PADD III has become increasingly reliant on Canadian heavy oil, which now represents 15% of their feedstock. Due to constrained pipeline infrastructure, Gulf Coast refineries rely heavily on crude-by-rail and has been the beneficiary of Enbridge’s Flanagan South pipeline which runs from Cushing, OK to the Houston area. Should the Keystone XL pipeline ever be completed, more of Canada's heavy oil can be sold to the PADD III area which has almost triple the refining capacity of PADD II. This would increase demand considerably for Canadian heavy crude and improve the sale price.
WHY DEMAND FOR HEAVY OIL IS SO HEALTHY
Although it sounds counter-intuitive, refineries can actually make more money by processing heavy sour crude. Over the past 10 years, refineries in the Gulf Coast and US Midwest have been modified into high-conversion facilities. These refineries crack and coke the heavy crude "bottoms" into high-value products, removing all traces of sulphur to produce expensive low-sulphur fuels. These highly complex facilities are specifically designed to process heavy sour feedstock, such as WCS. In fact, refining margins are better with heavy crude feedstock than lighter oil. That's why the demand for heavy crude is so high in the US and also becoming increasingly popular in Asian refining hubs.
WCS PRICING AND THE HEAVY OIL DISCOUNT
Unlike other benchmark crudes, WCS Crude Oil Futures Contracts, which trade on the Chicago Mercantile Exchange (CME), reflects the differential to WTI, and not the actual WCS price. This differential, often referred to as the Heavy Oil Discount, trades on the CME and is posted on our website in real-time. End-of-day closing prices for WCS, Canadian Light (Edmonton Par), WTI and Brent are posted on our Daily Oil Prices page, also located under the "Investing" menu. Monthly average settlement prices are posted on the National Energy Board website and also on our website.
Benchmark prices always reflect the sale price at the point of delivery, commonly termed FOB (free on board). The price for each stream therefore does not factor in delivery costs to the final customer.
WCS VERSUS OTHER BENCHMARKS
Light sweet crude oil requires less energy to refine and should theoretically sell for a better price. This might have been true in the old days but the logistics of moving the right type of crude to the right customer creates price differentials that go far beyond just quality.
Here's a snapshot of the price paid for a variety of crude oil streams into US refineries:
The heaviest crude is actually produced in Kern River, California. Despite being much heavier than Canadian heavy crude, it sells on par with West Texas Intermediate, which is a "higher-quality" light, sweet crude. Why? Because heavy oil produced in California is processed directly in California refineries (PADD V district), so the transportation cost is minimal.
Another example is Western Canadian Select versus Mayan crude produced in Mexico. Both are identical in quality. The price difference ($10/bbl) reflects the added transportation costs of getting Canadian crude to refineries in Houston. The price discount is therefore reflective of transportation costs and not so much a function of quality.
WHO ACTUALLY PAYS THE TRANSPORTATION COST
The refinery has to factor in crude shipment to its facility. A refinery will always pick the cheapest crude, so high shipping costs will drive down the selling price. Therefore, the same stream of crude will have a different selling price at different locations.
For example, shipping crude from Mexico to the Gulf Coast by tanker is only a few dollars a barrel. Shipping oil from Alberta to the Gulf Coast by rail or pipeline ranges from $10 to $20/bbl. Therefore, Alberta must offer a $10-20 price discount in order to be competitive with Mexico. That's because the refinery located in Houston has over 350 streams of crude to choose from, and they'll always pick the cheaper one. The sale price of Alberta's heavy oil therefore has little to do with quality but simply reflects the high cost of transport.
THE CHEAPEST METHOD OF TRANSPORT
Shipping crude by tanker is by far the cheapest method of transportation. And pipelines can be cheap too, provided they aren't constrained. Shipping crude by rail, which may have made sense at $100 oil, is inefficient and expensive. Over-reliance on crude-by-rail drives down the selling price of Alberta's heavy oil.
THE BEST WAY TO BOOST THE PRICE OF CANADIAN HEAVY OIL AND WCS
The best way to reduce the differential is to bring Alberta's crude oil to the closest largest customer. That's the US Gulf Coast. And the best way to achieve that goal is through Keystone XL. Although Energy East and the Trans Mountain Expansion Pipelines would certainly help, neither Montreal nor Vancouver has a huge refining capacity. And shipping oil to Asia or Europe would require oil companies to pay both pipeline and tanker transport costs. The world's largest oil consumer sits directly south of Alberta. The closest route to one of the world's largest refining hubs is therefore the most sensible and profitable option.