Canada – Capacity reduction redux

Published at 14:33 22 May 2019 by . Last edited 11:18 22 Aug 2019.

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Pipeline maintenance in May has depressed Canadian gas production. We project a 0.4 bcf/d y/y decline in WCSB output this injection season to 15.0 bcf/d, led by a 0.6 bcf/d y/y loss in May. Work between 6–11 May on the Edson Mainline cut WCSB outflows by up to 1.5 bcf/d, which pushed the region to a two-year production low according to our flow sample (covering over 90% of WCSB output). Low drilling activity and government crude oil cuts limiting oil sands gas demand are also weighing on Canadian gas production. AECO-C cash price rose by $0.60/mmbtu d/d on 6 May at the start of the major pipeline work, in contrast to 2018’s maintenance-induced negative prices. The difference stems from 2019’s work leaving interruptible transport into storage unrestricted, allowing gas that could not get onto pipelines into inventories instead. We forecast an AECO basis discount of $1.75/mmbtu for the remainder of the summer, narrower by $0.27/mmbtu y/y. While we are projecting Western Canada to enter the upcoming heating season with a 20 bcf y/y storage deficit (at a new multi-year low level of 600 bcf), US imports will see Dawn inventories comfortably hit Western Canada’s preferred end-October carryout of above 260 bcf. We forecast the widest Dawn basis discounts in 10 years, of $0.24/mmbtu for the rest of the summer, on the plentiful US supply that will be searching for a home.

Gas production in Western Canada is under siege. Our flow sample for the WCSB, which covers over 90% of the region’s output, points to May production of 14.0 bcf/d, down by 0.7 bcf/d m/m and 0.4 bcf/d y/y. While this represents the continuation of a long-running trend (see Monthly: Canada – Growth spurt sputters, 22 January 2019), maintenance in early May significantly curtailed WCSB receipts. We have revised our forecast summer WCSB gas production to now drop by 0.4 bcf/d y/y to 15.0 bcf/d, with May output of 14.7 bcf/d down by 0.5 bcf/d y/y. Our previous estimate pegged May at a 0.3 bcf/d y/y decline before the full scope of pipeline work was known.

The most intense bout of NGTL maintenance, between 6–11 May on the Edson Mainline Loop, restricted up to 1.5 bcf/d in flows from the Upper James River production area. That work combined with upgrades elsewhere on the NGTL system to cut our WCSB sample by 0.9 bcf/d d/d on 7 May, to 13.0 bcf/d. The sample rose by 0.5 bcf/d d/d on 12 May from a two-year low of 12.6 bcf/d as the Edson Mainline work concluded, rebounding to a pre-maintenance baseline of 14.6 bcf/d on 16 May as NGTL work finished for the time being (see Fig 1). Still, more maintenance remains on the schedule before the end of the month, including modifications to the Eastern Alberta Mainline that will restrict up to 0.8 bcf/d in flows from 27–30 May.

Maintenance is not the only reason for the y/y decline. Drilling activity was down by more than 20% in both BC and Alberta in 2018, a trend which has continued into 2019 (see E-mail alert: Canadian Q1 19 gas production falls y/y as decreased drilling takes its toll, 16 May 2019). Corporations with oil sands assets have also cut back on gas production that would have gone to their own bitumen processing operations due to Alberta’s mandated oil production cuts.

While WCSB gas production usually falls m/m in May for the spring thaw, maintenance has been the overriding factor in this year’s declines. Melting snows lead to a mud season that makes access to production areas difficult after winter. This trend has not accelerated in 2019 though. Rigs have come off this year at the same ratio as 2018’s break-up from February’s winter peak. While the peak number of rigs in 2019 is 100 lower y/y at 243, 12% were removed by end-February, 65% by end-March, and 75% by end-April (see Fig 2).

Fig 1: Western Canadian production, bcf/d Fig 2: Canadian rigs, percent of seasonal peak
Source: TC Energy, Ventyx, Energy Aspects Source: Baker Hughes, Energy Aspects

While maintenance depressed WCSB production in May, AECO-C cash prices did not sink on the capacity issues, as they have in years past. In May 2018, AECO fell into negative territory amid the most restrictive NGTL work. This year AECO actually rose by $0.60/mmbtu d/d on 6 May to $1.83/mmbtu as the major limitations began and remained above $1.60/mmbtu through their duration. The major bouts of 2018 maintenance had a similar dampening effect on production too. Upgrades to the Grand Prairie Mainline in late May 2018 cut WCSB output by 0.9 bcf/d d/d upon the start of work, albeit off a slightly higher baseline.

The difference in 2019 appears to be the lack of maintenance effect on interruptible transport (IT) and storage volumes. In 2018, NGTL upgrades limited IT, which reduced how much gas could flow into storage. That left higher volumes of stranded gas, since the gas that could not get onto pipelines also had difficulty entering inventories. In 2019, the NGTL work impacts have been confined to firm transport, allowing gas restricted from pipelines to find a way into storage. We forecast an AECO discount to Henry Hub of $1.75/mmbtu for the remainder of the summer, $0.27/mmbtu narrower y/y on the lack of similarly acute maintenance-induced dips.

That Western Canadian storage volumes have been unaffected by recent pipeline work is one of the few bright spots for inventories in the region. Western Canada still faces a 40 bcf y/y storage deficit at the start of May, with storage at a five-year low for the month of 435 bcf. Declining WCSB output will not help inventories rebound, and we project the west will enter the heating season with a new multi-year low carryout of 600 bcf (down by 20 bcf y/y).

On the other side of the country, Dawn storage volumes look nearly identical y/y. Inventories at the start of May were up by 5 bcf y/y at 45 bcf. Scheduled NGTL pipeline maintenance at East Gate (which feeds WCSB gas into the US Midwest or to Dawn) is projected to limit flows by 0.25 bcf/d on the average day this summer, exactly in line with 2018’s restrictions. Inflows from the US are likewise expected to be flat to moderately up y/y, given Rover Phase 2 began sending 0.8 bcf/d to Dawn via its Vector Pipeline interconnect in June 2018. Consistent imports from the US to Dawn inform our projection for an end-October carryout of 265 bcf (+10 bcf y/y).

The easy path back to 260+ bcf in inventories in Eastern Canada has put downward pressure on Dawn prices. May-to-date Dawn basis has averaged a $0.22/mmbtu discount to Henry Hub, which would be the lowest monthly level for the index in 10 years. With the flow of US gas from the Northeast via Rover and NEXUS so steady, Dawn’s only hope for price support might be unexpected maintenance that adds to restrictions for NGTL flows through East Gate. Even then, the behemoth of US production will still be feeding Eastern Canada, lending little downside risk to Dawn inventories and little upside potential to Dawn prices. Given additional maintenance beyond what is schedule is not our baseline case, we forecast Dawn prices will average a $0.24/mmbtu discount to Henry Hub for the rest of the summer on plentiful supply.

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