ECON 366: Energy Economics

class: center, middle, inverse, title-slide

.title[
# ECON 366: Energy Economics
]
.subtitle[
## Topic 2.1: Oil and Gas Markets
]
.author[
### Andrew Leach, Professor of Economics and Law
]
.date[
### <a href="mailto:aleach@ualberta.ca"> aleach@ualberta.ca</a> <a href="https://github.com/leachandrew"> leachandrew</a> <a href="https://twitter.com/andrew_leach"> @andrew_leach</a> 
]

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# Oil and gas prices

Oil, gas, and related product prices tend to vary based on four characteristics:
- Fundamentals of the commodity
- Quality differences like heating values or sulphur content
- Location where the price is set
- Time – gas prices are seasonal, oil and gas futures prices vary over time

For example, the answer to the question “what’s the price of oil,” should not be, “$54.15 per barrel.” It should be, “what type of oil, when, and where?”  Similar variations exist in gas markets.

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# Product definitions
## Oil
- All oil *blends* are *mixtures* of various *hydrocarbon* molecules and impurities
- *Crude assay* tells you the properties of any given mixture
- *Benchmark crudes* (WTI, WCS, Brent) have target assays
- Key components of value are *density* (or *API gravity*, which is an inverse density), and sulphur content (*sweet* vs *sour*)
- Different crudes with the same API gravity and sulphur content may differ in other characteristics (light ends, bottoms, etc) which lead to premia or discounts

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# WCS specifications

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# Crude Quality

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# Global oil – main pricing locations

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# Global oil – main pricing locations

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# North American oil – main pricing locations
<img src="eia_na_map.PNG" width="900px" style="display: block; margin: auto;" />
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# Crude Quality and Location

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# Crude prices vary by location

- Export (long) markets tend to have lower crude prices than import (short) markets
- Location-based price relationships determined by transportation costs, infrastructure availability, and trade flows
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# Location differences

<img src="oil_markets_files/figure-html/feature_crude-1.png" style="display: block; margin: auto;" />
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# Global Crude

<img src="oil_markets_files/figure-html/global_crude-1.png" style="display: block; margin: auto;" />
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# Location differences
<img src="oil_markets_files/figure-html/diffs_brent-1.png" style="display: block; margin: auto;" />
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# Location differences

<img src="oil_markets_files/figure-html/diffs_maya-1.png" style="display: block; margin: auto;" />
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# Heavy pricing higher than light? Check location

<img src="oil_markets_files/figure-html/diffs_edm_wti-1.png" style="display: block; margin: auto;" />
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# Quality Differences
<img src="oil_markets_files/figure-html/diffs_lls_maya-1.png" style="display: block; margin: auto;" />
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# Quality and Location Differences
<img src="oil_markets_files/figure-html/diffs_wcs_wti-1.png" style="display: block; margin: auto;" />
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# Bitumen – even larger differentials

<img src="oil_markets_files/figure-html/bitumen-1.png" style="display: block; margin: auto;" />
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# Bitumen – even larger differentials

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# Time dimension of oil prices: the futures contract
- Futures contracts are promises to deliver a commodity at a future date
- The contract has value based on the expected future value of the commodity in question
- Futures contracts are either cash settled or physically delivered. 
- Futures contracts that are physically delivered require the holder to either produce the commodity (seller) or take delivery (buyer). 
- Futures contracts that are cash settled are not deliverable and a simple debit or credit is issued when the contract expires based - on the value of the underlying commodity or commodities.
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# Time dimension of oil prices: the futures contract
WTI Futures Contract: 
- Contract Unit: 1,000 barrels
- Price Quotation: U.S. Dollars and Cents per Barrel
- Settlement: Deliverable
- Delivery between the first and last calendar day of the delivery month
- Delivery shall be made free-on-board ("F.O.B.") at any pipeline or storage facility in Cushing, Oklahoma with pipeline access to Enterprise or Enbridge Cushing storage. 
- At  buyer's option, delivery  may be made by inter-facility  transfer ("pumpover”), in-line (or in-system) transfer; or simple transfer of title to the buyer in tank farm.
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# Time dimension of oil prices: the futures contract
WTI Futures Contract Specifications:
- Gravity: Not less than 37 degrees American Petroleum Institute (“API”), nor more than 42  degrees API
- Sulfur:  0.42%  or  less  by  weight
- Viscosity:   Maximum  60  Saybolt  Universal  Seconds  at  100  degrees  Fahrenheit
- Reid vapor pressure: Less than 9.5 pounds per square inch at 100 degrees Fahrenheit 
- Basic Sediment, water and other impurities
- Pour Point: Not to exceed 50 degrees Fahrenheit
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# Time dimension of oil prices: the futures contract
WTI Futures Contract Grades in lieu:
- West Texas Intermediate, Low Sweet Mix (Scurry Snyder),New Mexican Sweet, North Texas Sweet, Oklahoma Sweet,South Texas Sweet (deliverable at par)
- U.K.: Brent Blend (seller paid 30 cent per barrel discount) 
- Nigeria: Bonny Light (seller paid 15 cent per barrel premium) 
- Nigeria: Qua Iboe (seller paid 15 cent per barrel premium) 
- Norway: Oseberg Blend (seller paid 55 cent per barrel discount) 
- Colombia: Cusiana (seller paid 15 cent per barrel premium) 
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# Time Dimension of Oil Prices

<img src="oil_markets_files/figure-html/wti_fwd-1.png" style="display: block; margin: auto;" />
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# We trade energy commodities, not energy
<img src="oil_markets_files/figure-html/boe-1.png" style="display: block; margin: auto;" />
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# What is natural gas?

- Natural gas is a naturally occurring hydrocarbon consisting primarily of methane, but it may also contain small amounts of ethane, propane, butane and pentanes. (capp.ca)
- Produced natural gas is not perfectly homogeneous
- Pipeline quality gas is nearly homogeneous, and trades based on heating value, not volume which facilitates transactions. See [here](http://www.nymex.com/ng_pre_agree.aspx)
- Contracts may be priced in $/MMBtu (US) or $/GJ (Cdn)

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# Produced gas
- At the well-head, gas will have different values by volume
- Hot gas, or gas with high heating values will sell for more per unit volume
- Liquids-rich gas, or gas with high concentrations of propanes, butanes, pentanes, etc will sell for higher prices
- Sour gas, or gas with measurable amounts of hydrogen sulfide is more difficult to handle and process, and therefore less valuable per unit volume or per unit heating value
- Gas processing plants process produced gas into pipeline gas which is mostly methane with some concentrations of liquids remaining

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# Gas prices vary by region
<img src="oil_markets_files/figure-html/global_gas-1.png" style="display: block; margin: auto;" />
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# Gas prices vary by region

<img src="oil_markets_files/figure-html/na_gas-1.png" style="display: block; margin: auto;" />
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# Gas prices vary by region
<img src="oil_markets_files/figure-html/cdn_gas-1.png" style="display: block; margin: auto;" />
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# Time Dimension of Gas Prices

.panelset[
.panel[.panel-name[US (Henry Hub)]
![](oil_markets_files/figure-html/hh_fwd-1.png)
]
.panel[.panel-name[Alberta(AECO/NIT)]
![](oil_markets_files/figure-html/NGX_nit_cad-1.png)
]
.panel[.panel-name[BC (Station 2)]
![](oil_markets_files/figure-html/NGX_stn2-1.png)
]

.panel[.panel-name[Ontario (Dawn)]
![](oil_markets_files/figure-html/NGX_dawn-1.png)
]
]

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# Natural gas liquids – the intervening commodity
<img src="type_curve.PNG" width="600px" style="display: block; margin: auto;" />
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# Natural gas liquids – the intervening commodity
<img src="liquids_cut.PNG" width="900px" style="display: block; margin: auto;" />
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# Natural gas liquids – the intervening commodity
<img src="oil_markets_files/figure-html/cdn_ngl-1.png" style="display: block; margin: auto;" />
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# Natural gas liquids – the intervening commodity
<img src="oil_markets_files/figure-html/us_ngl-1.png" style="display: block; margin: auto;" />

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# Natural gas liquids – the intervening commodity
<img src="oil_markets_files/figure-html/frac_spread-1.png" style="display: block; margin: auto;" />
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# Key concept review

- Contract components
- Commodity
- Location
- Quality
- Time
- Oil vs. gas energy vs quantity
- NGLs and the frac spread