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In the first 12 weeks of 2013, the number of carloads of petroleum products shipped by U.S. and Canadian railways was up 47 per cent from its year-ago level, according to National Bank Financial’s chief economist and strategist Stéfane Marion.

J.P. MOCZULSKI/REUTERS

Price discounts on western Canada's heavy oil have narrowed dramatically, as producers move record amounts of crude by rail in order to sidestep pipeline bottlenecks and reach thirsty U.S. refineries.

The price spread between Western Canadian Select and the North American benchmark is at its narrowest in more than a year, after shrinking rapidly in the last month. WCS sold for about $78 (U.S.) a barrel late last week, about $15 a barrel less than West Texas intermediate oil. That differential had reached nearly $35 in January.

The shrinking spread gives a reprieve to energy companies producing heavy oil in western Canada.

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Those companies, which include global giants and small producers, have been hammered by the steep discount, leaving some to trim their budgets and pull back on expansion plans. The reduced differential is also welcome news for the government of Alberta, which is facing its sixth deficit in a row due in part to the price gap weighing on royalty revenue.

In the first 12 weeks of 2013, the number of carloads of petroleum products shipped by U.S. and Canadian railways was up 47 per cent from its year-ago level, according to National Bank Financial's chief economist and strategist Stéfane Marion.

"Rail pipelines," he said in a research note Monday, "now account for more than 5 per cent of total rail traffic in Canada, a tenfold increase from just three years ago."

Analysts at Peters & Co. Ltd. project that crude oil transported by rail from Western Canada is expected to exceed 250,000 barrels a day by the end of 2013.

"The recent tightening in Canadian crude differentials is being assisted by the fact that material volumes are now being transported to market by rail," the firm said Monday. "The use of rail is allowing for another outlet or market clearing mechanism other than pipeline."

Meanwhile, railways are ramping up their crude capacity. "We see it as a sustainable, long-term growth market for our railroad," said spokesman Ed Greenberg of Canadian Pacific Railway Ltd., noting that the company anticipates moving 70,000 carloads of crude by rail this year, up from 53,000 in 2012. Looking to 2016, CP plans to be moving two to three times its present volume of crude.

Canadian National Railway Co. moved more than 30,000 carloads of crude in 2012 and expects to double crude volumes this year. "Where there aren't pipelines, where [crude] isn't fully served, rail can get crude to markets that have the better return for the producer or the marketer," said CN spokesman Mark Hallman.

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Other factors, such as refiners gearing up for asphalt production (which uses heavy oil), could be at work, said energy-industry observers surprised by the recent firming in Canadian prices.

But most point to strong demand from U.S. refineries, which have long wished for more heavy crude to process into gasoline and other products, but couldn't fill their extra capacity amid pipeline congestion from Canada.

And huge discounts on Canadian heavy oil last winter were caused by short-term factors such as refinery closures, notably the temporary shutdown of BP PLC's heavy-oil refinery at Whiting, Ind., said Stacey Hudson, analyst with Raymond James Inc. in Houston. At the same time, more crude is being shipped from the U.S. Midwest to the Gulf Coast with the opening of the Seaway pipeline and the use of rail cars.

Ms. Hudson said refinery shutdowns and a winter drop in U.S. demand caused a glut of Canadian heavy oil in the U.S. markets.

"The situation is more normalized after a sloppy winter," she said. "At this point, we've had had an opportunity to work down the inventory that was stuck behind the pipe, and that's why it's getting back to a more normal level."

Energy companies themselves are showing signs of optimism and applauding railroads.

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"The options for transporting western Canadian crude oil are in the process of being expanded through pipeline alterations and expansions as well as with the rapidly expanding use of rail for transportation to refining and export points," Whitecap Resources Inc. said in a press release last month. "This ultimately will assist to reduce the frequency and intensity of the pricing differentials in western Canada, thereby allowing us a higher realized price for our crude oil on a more stable basis."

Editor's note: Peters & Co. Ltd.'s projected crude oil volume transported by rail from Western Canada has been corrected in the online edition of this story.

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