Hurricanes Pose Continued Threat to Gulf of Mexico Fuel Production

As summer heats up, more Americans spend time venturing into the great outdoors. So many, in fact, that 41 million people traveled 50 miles or more during the Fourth of July holiday, a 2 percent increase over last year. As vacationers flock to popular travel destinations—and spend more time on the road and away from home—demand for gasoline predictably grows. The summer sun encourages traveling, but it also increases the potential for weather-related fuel supply shortages. In June, the Energy Information Administration (EIA) released its 2014 outlook for hurricane-related supply outages. Each year, the EIA forecasts disruptions to oil and gas supplies in the Gulf of Mexico, an important strategic reserve for these resources in the United States. Its finding? There is a 69 percent probability of a production shut-in greater than or equal to the volume of shut-ins in 2013. The federal agency says that 11.6 million barrels of crude, as well as 29.7 billion cubic feet (Bcf) of natural gas could be turned off due to hurricane-related reasons. By point of comparison, 3.1 million barrels (bbl) of crude and 6.7 billion cubic feet of natural gas were shut-in last year. The magnitude of production shut-ins, however, ultimately depends on the number and strength of storms affecting the Gulf and its oil and gas producers. The National Oceanic and Atmospheric Administration (NOAA) forecasts a year of normal or below-normal tropical conditions. According to NOAA forecasts, there may be one or two storms earning Category 3 or higher rating during this hurricane season.[i] Overall, anywhere between eight and 13 named storms may form within the Atlantic Basin, of which three to six may become hurricanes. ‘Cone of Uncertainty’ Predicting the weather is notoriously difficult, and approximating where hurricanes may develop is next to impossible. Last year, NOAA’s Climate Prediction Center estimated seven to 11 hurricanes would form within the Atlantic Basin, of which three to six would become Category 3 or greater (p = 0.70). Instead, there were two hurricanes, neither of which were considered “intense” by NOAA standards. But it only takes one strong hurricane to wreak havoc on oil and gas supplies. In 2005 and 2008, Hurricanes Katrina and Ike, Category 5 and 4 storms, respectively, caused catastrophic damage to offshore rigs in the Western Gulf of Mexico. Katrina pummeled oil and gas infrastructure along the coast, packing sustained winds in excess of 157 miles per hour. In total, the record storm sunk 115 platforms, damaged 52, and set another 19 adrift. The 2005 and 2008 Atlantic Hurricane seasons were particularly disruptive to oil and natural gas markets (Chart 1). According to a 2009 Department of Energy (DOE) report, Hurricane Katrina shut-in 8.8 Bcfd of natural gas, and 1.4 mbd of oil on its worst day. Similarly, Hurricane Rita shut-in 8.1 Bcfd of natural gas, and 1.5 mbd of oil. Production was slow to resume during these hurricane seasons. 101 large pipelines (greater than 10 inches in diameter) were damaged, and work crews had difficulty assessing affected areas. Six weeks after Hurricane Rita made landfall, 45 percent of Gulf fuel production remained shut down, accounting for 9 percent of total U.S. production. Note: No data was available from EIA for federal offshore Gulf of Mexico natural gas production after 2013.
Katrina shut down 95 percent of Gulf crude oil production, as well as 88 percent of gas production. As a result, consumers felt the pinch of higher oil and gas prices. Henry Hub spot prices for natural gas jumped from approximately $10 to over $15 three weeks after Katrina, as Rita made landfall. In oil markets, wholesale Gulf gasoline jumped from $75 to $125 per barrel. Katrina may have been a special case, but another Category 5 storm could affect fuel production, despite the projection that it probably will not. According to the EIA’s outlook, there is only a seven percent chance of no hurricane-related shut-ins this year. But there is also a 57 percent chance of a shut-in greater than 5 million barrels (MMbbl), an 18 percent chance of a shut-in greater than 20 MMbbl, and a nearly three percent chance of a shut-in greater than 50 MMbbl. NOAA has revised its projections in the past given real-time observations of climatological and oceanographic conditions. Historically, moderate hurricanes have also caused disruptions. Between 1995 and 2013, EIA reports that lower intensity hurricanes caused a 7.9 percent disruption in crude oil production, compared with a 5 percent disruption in natural gas. Higher intensity hurricanes of Category 3 magnitude or greater, meanwhile, cause more damage. They have accounted for nearly one-third of production losses in the Gulf of Mexico (Table 1). To offset losses incurred by natural disasters, Americans have traditionally relied on the Strategic Petroleum Reserve (SPR) to furnish the nation with spare capacity during major production shortfalls, such as those brought about by tropical storms. In 2005, the SPR was largely credited with bringing down oil prices after significant devastation in the aftermath of Hurricane Katrina. However, the SPR is not a failsafe, and is subject to other logistical constraints, such as ability to transport the oil to the appropriate refiners, and available refining capacity. “This sale ensures that refineries have the petroleum they need to keep gasoline and diesel fuel flowing to American consumers while production facilities in the gulf region regain their capacity,” said Secretary Samuel Bodman following the release of 30 million barrels from the SPR after Hurricane Katrina. Indeed, Katrina’s economic impacts reverberated beyond lost production, which was significant in its own right. Damage also included the closure of vital refineries, ports, waterways, and pipelines, all of which slowed down refiners’ ability to bring crude to market. Even the anticipation of damage to Gulf Coast refineries caused a price spike in the lead up to Hurricane Ike in 2008. As Gulf drilling operations go to greater depths, our vulnerability to supply disruptions may increase. Deep-water drilling has resumed in the Gulf of Mexico, following a brief moratorium after the Deepwater Horizon spill in 2010. Combined drilling of deep and ultra-deep seafloors have gradually supplanted shallow, less risky investment closer to shore, and now accounts for 80 percent Gulf drilling operations (deep + ultra-deep drilling). Figure 2 illustrates this three-part story. As drilling approval slowed in 2010, so did the number of offshore rigs. Recently, however, that number has climbed, signaling that oil and gas production along the Gulf Coast could be on the rebound. Ultimately, oil and gas markets are vulnerable to events around the world. They respond chiefly to uncertainty, in both human and natural elements. Popular uprisings, geopolitical tumult, and natural disasters each produce the kind of uncertainty that precipitates fuel supply shortages and price spikes.

[i] Hurricane season typically lasts between June 1st to November 30th of each year.