As Permian crude differentials continue to widen, trading at a $8.45/bbl discount to Magellan East Houston this week, a lot of people are pointing fingers at midstream companies for not completing new takeaway pipeline projects quickly enough. But even in the oil patch, it takes two to tango and producers can also share some of the blame. Historically, the focus in the Permian has been on larger producers, with their sprawling acreage positions and their focus on creating long-term competitive advantages through efficient drilling programs. Many of the smaller, private equity-backed producers adopted more short-term strategies. Their game has been to prove undervalued acreage and then flip those assets to more substantial players. But these strategies are beginning to change. Today, we continue our series on Permian differentials with a look at how the recent ramp-up in the development of second- and third-tier production areas is affecting the region’s crude oil output, pipeline takeaway constraints and price differentials.
As we said in Part 1, Permian crude production is growing at a breakneck pace, pipeline takeaway constraints are worsening by the day and, as a result, Permian producers without takeaway capacity locked up have been taking a big hit on crude prices. We’ve seen this movie before (Figure 1), most recently back in 2014, when (like now) rising production pushed outgoing pipeline capacity to the max and the price spreads between Midland and destinations at the Cushing hub in Oklahoma widened dramatically (blue line, red oval to left). Earlier this week, the spread between West Texas Intermediate (WTI) at Cushing vs. WTI at Midland stood at $5.65/bbl (blue line, red oval to right), while the spread between Midland and Magellan East Houston (MEH; orange line, red oval to right), which we started tracking in 2016, was $8.45/bbl. Two weeks ago, these same spreads were only $2.70/bbl and $4.95/bbl, respectively.