Panama Tailored to Fit Larger Vessels – How Crude Products and LNG Will Respond

The 51-mile long Panama Canal completed in 1914 connects the Caribbean Sea to the Pacific Ocean. By passing through the Canal ships reduce voyage distances by thousands of miles and journey times by 10 days or more. The Canal is currently constrained by the dimensions of its lock system that limit the size of vessel that can pass through. An expansion project started in 2006 and set to complete in early 2015 will increase the dimensions so that larger ships can use the canal. Today we assess the consequences for tanker movements.

Landlubber Alert

This blog is going to expose you to a few nautical terms because we are talking about big ships and for some reason, as soon as operations people leave dry land they talk different. We will try and translate these nautical terms as we go along – with apologies to those already fluent in “offshore”. Since this is a general topic we will also try and avoid the nuances of tanker freight chartering and charges. They deserve a blog in their own right.

The Panama Canal is so important to world waterborne trade that a whole class of vessels called “Panamax” is specifically designed and built to squeeze through the lock system. Currently no vessel longer than 965 feet, wider than 106 feet and with a draft (depth in the water) greater than 39 feet can pass through (see diagram below). That equates to a cargo size of about 50 thousand metric tonnes (MMT) – roughly equivalent to 380 MBbl of West Texas Intermediate (WTI) crude oil. When the canal expansion is complete in 2015, the “Post-Panamax” dimensions (see the diagram) will allow vessels 1200 feet long, 180 feet wide and with a draft no greater than 50 feet. Tanker cargo size will increase to 80 MMT – equivalent to 600 MBbl of WTI.

Source: Panama Canal Authority (APC)

The vessel sizes we use here as examples are necessarily generalized because every ship is different and indeed has to be inspected and registered with the Panama Canal Authority (APC) before making its first passage. Different cargos also have an impact on the vessel draft such that a heavier crude oil cargo will sit deeper in the water and reduce the volume that a Panamax vessel can carry. The APC charge a hefty tariff for canal passage and those fees end up as additional freight charges that the shipper has to pay. It is important to note that tanker freight charges are generally for a round trip voyage. That means larger vessels can pass through the Panama Canal in ballast (fancy shipping term for “without a cargo” or empty) on the return leg of a voyage to save time even though they have to go the long way around the Cape Horn (South America) when laden (shipping term for full).

Crude Oil Tankers

The majority of crude oil that travels long distance across oceans nowadays is carried in so called Very Large Crude Carriers (VLCC) or their big brothers Ultra Large Crude Carriers (ULCC). VLCCs might carry up to 1 MMBbl of crude and ULCCs as much as 2 MMBbl. Ships that large will not go through the expanded Panama Canal so their routes will not change. However smaller cargoes of crude – perhaps 0.5 MMBbl will find it economic to move through the expanded Panama Canal. We have talked a lot recently (see Turner Mason and the Goblet of Light and Heavy) about rising US domestic and Canadian crude production finding its way to the Gulf Coast and starting to push out light sweet imports from countries such as Brazil and heavier crude from Mexico and Venezuela. These Latin American crudes could find alternative markets in the Pacific Rim via the Panama Canal.  We have also discussed current legal restrictions on US capability to export crude oil (see Independence Day). If these restrictions are lifted then US crude exports from the Gulf Coast could take advantage of the Panama Canal. Exports could also be an option for Canadian crude that reaches the US Gulf Coast via pipeline in the next two years. If the proposed Transmountain Pipeline Expansion and Northern Gateway Pipelines are built to the West Coast of Canada, the expanded Panama Canal offers an alternative route to the US Gulf for Western Canadian crude over pipeline and the option to reach European markets.

Refined Products

A more likely benefit for the US refining industry will be the chance to expand exports of refined products from Gulf Coast refineries to markets on the West Coast of South America through the Panama Canal or when the opportunity arises to sell cargoes into the Asian market. Refined products are typically carried on smaller vessels than crude oil tankers. The expanded canal makes larger cargoes possible. These opportunities coincide with the evolving potential of US Gulf refiners to take advantage of lower priced domestic crude and lower natural gas fuel costs to develop a lucrative refined product export market.

LNG

Some of the largest beneficiaries of canal expansion in the energy market will be liquefied natural gas (LNG) carriers (see Making Lemonade for more on LNG). The current Panamax vessel size excludes all but 10 percent of LNG vessels from using the canal. After the expansion that figure will rise to 80 percent of the LNG fleet. Only the largest Q-Flex and Q-Max vessels (so named for their ability to use LNG terminals in Qatar) will be too large to pass through the Panama Canal. That means LNG carriers with as much as 100 MMcf of liquefied gas can use the Panama Canal to move cargos from the Atlantic to the Pacific oceans.

As a result the expanded canal capacity in 2015 will fall right into the lap of US Gulf Coast projects in the pipeline to liquefy and export LNG to markets in Asia. Only Houston-based Cheniere Energy has so far received approval from the US Department of Energy to export LNG from the lower 48 to ports outside North America and environmental clearance from the US Federal Energy Regulatory Commission. Apart from Cheniere, twelve of the remaining 18 North America LNG export projects currently awaiting Federal approval are located in Texas or the US Southeast. Although mostl of these projects will not come to fruition, their economics are definitely improved by the option to transport large cargoes to Asia via the Panama Canal. Natural gas prices in Europe are currently trading at about $9/MMbtu but prices in Asia are above $13/MMbtu and therefore offer a higher return as well as an alternative destination for shippers. The ability to ship from the Gulf to Asia allows these companies to compete with similar LNG export projects on the West Coast of Canada (see Lonely Gas Surplus) and Australia.

Cheniere management are on the record saying that their project at Sabine Pass in Louisiana requires the Panama Canal expansion to be competitive internationally. Cheniere has already contracted term deals with two Asian customers – Korea Gas and GAIL India Ltd. That will likely have the bulk of their gas delivered through Panama. Other logical LNG routes through the Panama Canal would be from the US Gulf or Caribbean to Chile, which imports natural gas for power generation and from Peru on the West Coast of South America to European destinations.

Liquid Petroleum Gas (LPG)

LPG or gas carriers are specialized vessels designed to carry natural gas liquids under pressure or refrigerated. Most of these carriers can already navigate the canal. All but the largest gas carriers, called very large gas carriers (VLGC’s - that carry over 70,000 cubic meters or approximately 440 MBbl) have dimensions that fall within the Panamax class. Twenty percent of VLGC’s do meet today’s Panamax specifications and the other eighty percent will be able to navigate the expanded canal. With recent projects being announced to export more waterborne LPG cargoes from the East Coast Marcellus region and growing exports from Gulf Coast fractionation plants, the expanded canal will increase cargo sizes that can travel to Asia.

Coal 

Finally we should mention the prospect of US coal exports from the East Coast to Asia and we have reported on plans to export Powder River Basin coal from the West Coast to Asia (see Westward Ho!). The canal expansion provides greater opportunity for these coal exports because of the economics of larger vessel sizes.

The Panama Canal expansion has been a long time coming and is still more than two years away. Everything to do with ships always seems to move slowly. The main beneficiaries of the project in the energy commodity space will be LNG export projects that will be able to use larger vessels to justify their project economics. Current crude trade patterns will not likely be impacted but changes in the US crude supply mix will have a knock-on effect in Latin America that may prompt increased future crude movement through the canal. The growing US Gulf refined product export business will definitely benefit from better routes to Asia as will LPG exports. Coal companies may be better able to compete in export markets with the flexibility to ship larger cargoes through Panama. Increased trade is a good thing and increasing the options to move bulk energy cargoes can only be good news for the US energy renaissance.