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Oil Bulls Happy, Pump Prices Down for Regular Americans: A Win-Win?

Published 20/10/2023, 09:36
  • US pump prices of gasoline are falling just as crude prices are going the other way
  • Americans spared the pain felt by drivers elsewhere with crude at or near $90 per barrel.
  • If the trend lasts, it could also give the Fed one less reason to hike interest rates
  • One of the strangest dualities is occurring on the American energy front: Traders long on crude have more wins than losses in what is usually a weak season for oil prices while regular people are paying less than a year ago for gasoline at pumps across the country.

    Some are wondering if this win-win imparts a new lesson in economics. After all, the science of how societies produce goods and services and consume them tells us that raw material costs, more than anything else, dictate product prices.

    As such, the gasoline required by our cars should theoretically become more expensive as traders chase up prices of the crude oil that’s refined into that petroleum.

    That the opposite is happening instead in the United States is more of a reflection of the peculiarities reshaping the energy sector in the world’s largest oil-consuming nation, than a retelling of economics in general.

    OPEC may have consumers over a barrel with its production cuts, with the latest conflagration in the Middle East not helping oil-importing countries one bit. Yet, Americans have been spared the pain felt by drivers elsewhere in the world from oil prices at or nearer to $90 per barrel.

    The deflation in US energy costs  — depending on how long they last —  could also give the Federal Reserve one less reason to hike interest rates. Who’d have thought?

    Said John Kilduff, partner at New York energy hedge fund Again Capital:

    “At various points of history, there have been breakdowns in the positive correlation between the flat price of a barrel and prices at the pump. But the outcome has often been higher gasoline prices, not lower, meaning even if crude prices went down, gasoline prices would stay higher longer than expected due to blowout refining cracks.”

    “What’s happening now though, is quite remarkable. We’ve gone more than a year with very little change in the pump price of gasoline despite some explosive upward moves in crude, especially in recent months. Again, it’s a function of the gas crack, which fell so low that it flipped to negative at one point, due more than adequate supply than demand for gasoline.”

    It’s All in the Crack

    The so-called crack, or refining profit on a barrel, basically determines the price of any fuel extracted from the crude. Each fuel component has its own crack, accordingly known as the gasoline crack, diesel crack, heating oil crack and the kerosene jet fuel crack, and so on.

    The fuel refining and delivery industry in the United States typically has a combined profit margin of 50% to 80% on a barrel of crude at most times, maintaining that even during the two-year-long coronavirus pandemic. At times, the gasoline crack itself has fallen so much that refining margins — as they are called — have taken a major hit.

    Now, is one of those lean periods for gasoline margins, with the crack for a barrel in the single digits, finishing Thursday at $9.77 for a barrel of the US crude on the spot market. Gasoline deliverable in November closed futures trade in New York on Thursday at $2.3617 per gallon. The average pump price for gasoline was at $3.565 per gallon, according to the American Automobile Association.

    If one were to compare that to about a year and a half ago, the contrast would be stark. In June 2022, the gasoline crack was at $53.34 a barrel as the pump price hit an all-time high of $5.016 a gallon. Gasoline futures in New York were then at $4.3202 per gallon.

    The reason for the drop in all three components of gasoline pricing now appears to be the overproduction of fuels by refiners who started maxing out on their runs since mid-June. Investing.com calculations show a net 64 million barrels of crude being drawn from US stockpiles over the last 15 weeks — or an average of 4.3 million barrels per week.

    Shortfall in US Oil Consumption Made Up By Export Demand

    The massive draw was to serve two fronts: projected fuel at home and growing export demand for US energy products as a whole, including crude, in markets squeezed by production cuts carried out by OPEC+  — the 23-nation alliance of oil producers grouping the 13-member, Saudi-led Organization of the Petroleum Exporting Countries with 10 independent oil producers that include Russia.

    “The bet was on originally on fulfilling blowout gasoline demand for the summer,” said Kilduff. “Well, that didn’t really pan out although there were some weeks of notable gasoline consumption between June and August. Then, as gasoline cracks started weakening, the diesel cracks really went on a tear because of an implied shortage of diesel worldwide, not just the United States.

    So, refiners began chasing the diesel crack then. But then, there was a catch. In order to get to the diesel, you have to crack out the gasoline first. So, whether they liked it or not, we ended up with more gasoline on our hands than necessary.”

    US refineries use a 1:1 formula where every barrel is assumed to produce a barrel of gasoline, or the 3:2:1 formula, where every three barrels produces two barrels of gasoline and one barrel of distillates. Whichever the formula used, each barrel on average produces about 20 gallons of gasoline, 12 gallons of distillates that become diesel and kerosene for jet fuel, and another 10 gallons of other low-yielding energy products.

    The diesel crack, identified as the Gulf Coast ULSD Crack Spread, with pricing information provided by Platts, was at $41.89 in Thursday’s spot market.

    “That was in the $50s a few weeks back,” said Kilduff.

    One reason the US diesel crack has remained healthy: overseas demand.

    In the prior week to Oct. 13, the United States exported 10.565 barrels of US liquid energy products that did not include liquefied natural gas, the Energy Information Administration, or EIA, said in its Weekly Petroleum Status Report.

    Of that export tally, 5.301 million barrels were crude oil while the balance of 5.355 million were fuel products. Gasoline only accounted for 1.081 million barrels, with the rest made up of distillates that included distillate fuel oil, kerosene-type jet fuel, residual fuel oil, fuel ethanol, propane, propylene, and other oils.

    The export demand for US oil in general is helping line the pockets of American energy firms, and prodding them to continue producing fuels in a big way that, in turn, keeps gasoline prices low at the pump.

    The American Automobile Association remarked on Thursday on the phenomenon of continually falling gasoline prices despite the crude price spike triggered by concerns of a contingent effect from the Israel-Hamas war. “As the leaves fall, so do gas prices,” it said, referring to the fall, or autumn season, which is known for its falling leaves and weaker energy demand.

    Despite global tensions causing ripples through the oil market, the national average for a gallon of gas maintained its autumnal dip, falling eight cents since last week to $3.56, the AAA said. It added that pump prices have lost 32 cents since their 2023 peak of $3.88 a gallon a month ago. This means drivers were saving about $5 every time they filled up a full tank, it noted.

    “While gas prices are falling about a penny a day, that feels like a glacial pace,” said Andrew Gross, AAA spokesperson. “The oil market is watching to see if the war between Israel and Hamas widens, so the price is stuck at a rather elevated price in the mid-$80s per barrel. This, in turn, is slowing the decline in gas prices.”

    Gasoline demand was better than expected last week, increasing from 8.58 to 8.94 million barrels per day last week. Total domestic gasoline stocks, meanwhile, fell by 2.4 million barrels per day to 223.3 million barrels per day.

    Added the AAA:

    “Although higher demand and tightening supply typically increase pump prices, flat oil prices have had the opposite effect. If oil prices remain steady or fall, drivers can expect further price drops at the pump in the weeks ahead.” 

    “Today’s national average of $3.56 is 32 cents less than a month ago and 29 cents less than a year ago.”


    Disclaimer: The aim of this article is purely to inform and does not in any way represent an inducement or recommendation to buy or sell any commodity or its related securities. The author Barani Krishnan does not hold a position in the commodities and securities he writes about. He typically uses a range of views outside his own to bring diversity to his analysis of any market. For neutrality, he sometimes presents contrarian views and market variables.

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