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Commodities Corner: Here’s what the Colonial Pipeline cyberattack means for energy markets

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The operator of the largest fuel pipeline system in the U.S. is aiming to “substantially” restore operational service by the end of the week after it was forced to shutdown a crucial artery supplying gasoline and other fuels to the East Coast following a ransomware attack.


‘The pipeline is the most important for U.S. oil markets, given its size, but I would guess that prices won’t be affected enough to deter people’s summer vacation plans.’


— Michael Lynch, president of Strategic Energy & Economic Research

Restoring the crucial pipeline could avert lasting repercussions for the nation’s fuel supply and prices, analysts said Monday.

“The pipeline is the most important for U.S. oil markets, given its size, but I would guess that prices won’t be affected enough to deter people’s summer vacation plans,” said Michael Lynch, president of Strategic Energy & Economic Research.

Based on news reports that the hack affected information systems, and not the machinery controls, “suggests that it shouldn’t be a long-lived shutdown,” Lynch said.

Alpharetta, Ga.-based Colonial Pipeline said Monday that it was bringing its system, which supplies around 45% of the fuel consumed by the East Coast, back online in a “stepwise” fashion, in compliance with relevant federal regulations and close consultation with the Energy Department.

“While this situation remains fluid and continues to evolve, the Colonial operations team is executing a plan that involves an incremental process that will facilitate a return to service in a phased approach,” the company said. “This plan is based on a number of factors with safety and compliance driving our operational decisions, and the goal of substantially restoring operational service by the end of the week.”

Related: 20 cybersecurity stocks Wall Street believes can rise up to 79% over the next year

Lynch said that if it takes more than another two to three days to restore service, “you can expect higher gasoline prices along the East Coast, especially around Memorial Day.” The holiday, which lands on May 31 this year, marks the official start to the summer driving season.

A “couple of weeks of 10 to 20 cents higher retail prices seems very possible,” he said.

Read: Will the Colonial Pipeline outage hike gas prices? It all depends on where you live

Prices at the gasoline pump have so far shown little day-to-day change. On Monday, the average national price for regular gasoline stood at $2.967 a gallon, little changed from $2.962 on Sunday, according to AAA.

On the week, prices jumped 6 cents and AAA forecasts a rise this week in reaction to the pipeline shutdown.

“Should the outage last longer than through midweek, prices will move much higher, more quickly” as localized supply tightness and outages emerge, said Brian Milne, editor and product manager at commodity analysis provider DTN.

“This scenario will hasten should the public panic and begin topping off their tanks,” he said.

What happened?

Colonial Pipeline said that it was the “victim of a cybersecurity attack” on Friday and had since learned that the incident involved ransomware, which can be used to block a victim’s data and essentially hold the information hostage until a ransom is paid. The company said it “proactively” took certain systems offline to contain the threat, “temporarily” halting all pipeline operations.

Read: Suspected Colonial Pipeline hackers say they regret ‘creating problems’: reports

How important is the pipeline?

Colonial Pipeline Company operates the largest refined products pipeline in the United States, which spans more than 5,500 miles and transports more than 100 million gallons of fuel or 2.5 million barrels, a day to consumers from Houston, Texas, to the New York Harbor.

The company transports about 45% of all fuel consumed on the East Coast and says it provides refined products to more than 50 million Americans.

The types of fuels transported through the company’s pipeline system include various grades of gasoline, diesel fuel, home heating oil, jet fuel and fuels for the U.S. military. The majority of the system is underground, the company says, with tankage and other facilities at key receipt, storage and delivery points.

Market reaction

James Williams, energy economist at WTRG Economics, told MarketWatch there was little response at the gasoline pumps on the East Coast — over the weekend at least.

“With the threat of a shortage of gasoline, consumers usually make a run on the gasoline stations, topping off their tanks. Even when there is no actual shortage, the run on the stations creates the appearance of one,” he said.

If the pipeline operator manages to “substantially” restore operations by the end of the week as it hopes to, the market will only have a “few spot shortages,” said Williams.

Still, “there are few more critical elements in our infrastructure than the Colonial Pipeline,” he said. “It’s the Mississippi River of the downstream oil industry.”


“There are few more critical elements in our infrastructure than the Colonial Pipeline. It’s the Mississippi River of the downstream oil industry.”


— James Williams, WTRG Economics

On the futures market, U.S. oil
CL.1,
-0.08%

CLM21,
-0.08%

and gasoline
RBM21,
+0.03%

futures seesawed between losses and gains Monday before settling just a penny or two higher for the session.

Read: Oil prices end pennies higher as traders assess impact of Colonial Pipeline shutdown

Gasoline imports, meanwhile, are likely to remain strong in the mid-Atlantic “amid the higher price signals we’re seeing now,” said DTN’s Milne. The East Coast averaged roughly 825,000 barrels a day of gasoline imports in April, up more than 50% compared with the three-year average.

Fuel transport alternatives

Alternatives to transporting the fuel are limited, analysts said.

“Basically, very little alternative,” said Williams, when asked about how oil can be transported to the East Coast without the use of the pipeline. “Some can be moved out of the Midwest. Tankers and rail are possibilities, but nothing that can replace 1.5 million [barrels a day] of gasoline and another million [barrels a day] of diesel and jet fuel.”

“Florida can obtain more fuel by barge from Louisiana or Houston,” he said. Some ships could be “sent to New York Harbor and they can also import more from Europe.”

Also, railcars are a “possibility but only if we anticipate an extended outage” because “most tanker cars are used for crude and will have to be cleaned before shipment,” Williams said, adding that rail shipments take a long time.

There has also been talk about the potential for using ships to get refined product from the Gulf Coast to the Northeast, if the pipeline outage is prolonged.

In that case, a federal law called the Jones Act would have to be waived, said analysts at RBC Capital Markets, led by analysts Michael Tran. The law prohibits transportation of cargo between points in the U.S. either directly or through a foreign port, in a foreign-built or owned vessel.

“Given the dearth of such ships, waterborne oil trade between ports is economically challenging,” the RBC analysts said. “Waivers are rare, but not unprecedented,” they said, adding that during “superstorm Sandy, which ravaged the U.S. Northeast in 2012, the U.S. Department of Homeland Security temporarily waived the Jones Act. “Such a waiver could quickly cap product price rallies given that product tankers already loaded in the Gulf Coast could divert towards the East Coast in timely fashion.”

There are other potential issues that may come up, warned Williams. “The problem is if the pipeline is fixed this week, then they have gasoline and diesel that they do not need already on the way,” he said. “Clearly, we have a shortage of drivers for trucks and the fleet of trucks is typically used for more local delivery, so that creates another shortage when they are diverted.”

Read: ‘Summer scramble’ for gasoline on tap amid tank-truck driver shortage

Meanwhile, the Transportation Department took steps to allow more flexibility for motor carriers and drivers, issuing a temporary-hours-of-service exemption that applies to hose transporting gasoline, diesel, jet fuel and other refined products to certain states. That means fuel truck drivers in 17 states along the pipeline’s route will be able to work beyond the usual 11-hour driving limit due to the shutdown, according to Politico.

When should the market really worry?

The situation will become “critical” if flow through the pipelines isn’t restored by the end of the week, said Williams.

Overall U.S. gasoline inventories are actually “comfortable” for this time of year, said Peter McNally, global sector lead for industrial metals and energy at Third Bridge, in emailed commentary. Supplies are about 3% below average levels, he said.

However, he pointed out that the market is heading into the peak demand season that begins with Memorial Day weekend, less than three weeks away.

“Our experts will be watching inventory levels that have been falling over the past year.,” said McNally, adding that “rationalization of refineries along the East Coast…has increased dependence on Colonial.”

Capitol Report: White House says it didn’t offer advice to Colonial Pipeline over paying ransom to hackers

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