By Vipal Monga and Stephanie Yang 

Canadian crude prices have surged to trade at the smallest discount to U.S. oil in a decade, marking an early success for provincial-government efforts to cap supply and boost the country's income.

A blend of Canadian crude has rallied as much as 41% since early December, when the government of the oil-rich province of Alberta forced producers to cut output by nearly 9% in a bid to lift depressed prices. Prices for Western Canadian Select traded at $41.83 a barrel on Thursday after a sharp decline that day, according to S&P Global Platts.

The provincial government directed the cuts after Canadian crude prices traded at a steep discount to U.S. oil, reaching a record difference of more than $51 a barrel in October. By Friday, that gap had narrowed to less than $7, the lowest since March 2009, according to RBC Capital Markets.

"The forced cuts caught us all by surprise," said Scott Shelton, a broker at ICAP PLC. "Most people, including myself, saw no hope for Canadian differentials for another year or so."

Canadian crude has rebounded on expectations that the cuts will help draw down inventories, and likely was aided by a scramble among traders to cover short positions on physical barrels. But some analysts say that the government cap, which is set to expire at the end of the year, will only act as a temporary fix for Canada's problems, leaving the risk that prices can fall again.

Alberta's mandated curtailment -- an extraordinary intervention in Canada, the fourth-largest oil producer in the world -- was criticized by large oil producers in the province including Suncor Energy, and Exxon Mobil-controlled Imperial Oil Ltd., as an unwarranted interference in free markets.

Suncor said in a statement shortly after the output cut was announced, "In the short term, the Government of Alberta action has resulted in winners and losers in the market."

An Imperial Oil spokesman said the company disagreed with the mandatory cuts and argued they could hurt investment in the province's transportation infrastructure. "This government action creates long-term market uncertainty, and reduces any incentive for market participants to invest in crude oil processing facilities or commit to long-term transportation arrangements, including rail," said the spokesman.

Inventories had been rising through the end of last year, but research firm Genscape Inc. said stockpiles in Western Canada fell by 2.5 million barrels for the week ended Jan. 11, suggesting the output cuts are working.

The rally in Canadian crude coincides with a volatile period in global energy markets. Oil prices world-wide tumbled late last year on concerns of softening demand and rising supply. Efforts by major producers to curtail output and a more stable global economic outlook have boosted U.S. prices nearly 15% to $52.07 a barrel this year.

But in Canada, infrastructure bottlenecks have plagued the energy industry over the past year. Crude inventories jumped last year on a lack of pipeline space needed to carry oil from landlocked Alberta to U.S. refineries. That left shippers with few options to sell their crude, weighing on regional prices.

Now, while prices have rebounded, the industry is grappling with the issue of losing money on each barrel of crude they send south by train.

Moving a barrel from terminals in Alberta to the U.S. Gulf Coast costs between $9 and $12 by pipeline, and between $18 and $20 by rail, said Mike Walls, an analyst with Genscape. That price tag exceeds the current premium of U.S. crude to Canadian, putting shippers at risk of missing out on profits even after Canadian prices rose.

As things stand, a shipper could lose roughly $9 for every barrel sent to the Gulf by rail.

Many shippers also likely signed longer-term contracts to transport by the more costly option of rail. Such parties are now pressured to fill those rail commitments even with a narrower price spread, said Rusty Braziel, president of RBN Energy LLC.

"From the standpoint of somebody who has made those commitments, it's the worst possible thing that could happen," Mr. Braziel said.

Suncor Energy, one of the oil sands producers that criticized Alberta's intervention, said the current prices make it difficult for the company to ship its crude out of the province by rail.

"Rail transportation is uneconomic," said Sneh Seetal, a spokeswoman for the Calgary-based company.

Alberta's leader, Premier Rachel Notley, cautioned that the recent price increase could be followed by a retreat in coming weeks. Her government has been lobbying the federal government, under Prime Minister Justin Trudeau, to push through pipeline construction to take oil out of Alberta.

Futures markets indicate that traders expect the Canadian discount to widen again in coming months, with contracts for July delivery trading at an estimated difference of $17.80 a barrel, closer to the cost of rail transportation, according to CME Group.

"It's good that we've been made to drive the price up a little bit but we also know that we can't count on that," Ms. Notley said during remarks to reporters on Tuesday. "We have to find longer-term, more sustainable solutions."

Write to Vipal Monga at vipal.monga@wsj.com and Stephanie Yang at stephanie.yang@wsj.com

 

(END) Dow Jones Newswires

January 17, 2019 17:53 ET (22:53 GMT)

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