The autumnal and vernal equinoxes are times of balance, at least from the perspective of the planet rotating on its axis. However, anything but a balance is on display in the U.S. petroleum markets these days. Last weekend saw 50% or more of the local stations run out of gasoline in states like Georgia, Tennessee, Virginia, North and South Carolina and a dollar’s worth of difference separated the lowest price and the highest price, for essentially the same fuel.
Since I’m heading west for the rest of the week, I thought I’d take the opportunity to answer some of the most common questions that we are fielding here at OPIS. All of thee questions will relate to supply and price. And as always, I stress that I hold no equity positions in any oil companies, nor do I engage in the highly speculative business of buying or selling oil futures. I did trade futures long ago in my career, but quickly decided that I had no business doing so. Perhaps I should look into trading some credit derivative swaps – they seem so simple and aren’t in any way convoluted!
First, some numbers and general comments. The average price of retail unleaded regular today is at $3.726 gal, which base on recently poor demand, adds up to a per diem cost of $1.394-billion. That compares with $1.077-billion a year ago and $597-million on this day in 2003.
Let’s put that another way. In the next 99 days, we’ll spend about $79-billion more on motor fuel than in 2003. That $79-billion could bail out a couple of the billion dollar banks that have misbehaved in the last five years, and gild a few executive parachutes.
A second point. In 30 years in this business, I have never seen such aberrations in traditional crude-to-product, or U.S.-to-the-world relationships. Imagine that all the couples in your social circle had the marital stability of Billy Bob & Angelina; Michael Jackson & Debbie Rowe, Charlie Sheen & pretty much any young lady, or Renee Zelwegger & Kenny Chesney. The relationships that I am looking at now in the oil world are not relationships that can stand the test of time.
Enough of that. Here are the questions and my most honest and intrepid answers:
Q. Half of the stations in my local area don’t have gasoline. What gives?
A. The refinery production shutdowns that were taken in anticipation of Hurricanes Gustav and Ike are now impacting many downstream markets. Think of the pipelines that serve the southeast as railroads. The metaphorical railroads were restarted just a day or two after hurricane landfall, but the passenger cars arriving in pipeline-supplied points in Alabama, Mississippi, Georgia, the Carolinas, Virginia, and Tennessee came in with very few passengers aboard. The pipelines are still catching up to those lower shipments, so many of the downstream supply points will this week see the worst of the product dislocations.
Q. When should I expect refiners to be back to normal?
A. Most of the production that went down for fear of Gustav has been restarted. Much of the refinery output that was threatened by Ike will be restarted by this weekend. Still, we are not likely to see normal refinery output until about Columbus Day. In the meantime, companies are importing more gasoline, and refiners in non-Gulf Coast states are raising utilization. But a true return to normal is not in the cards for October.
Postscript: There are still about 70 days in hurricane season. We’ve learned that a storm that merely threatens coastal refineries means that those units must be taken down as a precaution. Let’s hope that we don’t see a late September or October probability cone. Give Jim Cantore at the Weather Channel a rest!
Q. What about crude oil? Why did it go up by a record amount on September 22?
A. Crude’s rise on Monday was misleading. Some buying was tied to money flowing into all commodities, on the prospect that more money in the capital markets would create inflation. Crude oil futures are often a proxy for inflation.
Secondly, Monday represented the last day of trading for the October futures contract and that contract was probably oversold. Ultimately, paper traders have to exit their futures contracts before expiration or be faced with having to make delivery. There aren’t many physical barrels available for the Oklahoma delivery point of the futures contract. There’s no worldwide shortage or tightness of crude, and no particular U.S. shortage (we don’t need as much crude with 2-million b/d of refining equipment down). But some times, short supply at the NYMEX delivery point (Cushing, OK) can make a huge difference in the scheme of things. (Scheme is probably a bad word to use, given reporters’ propensity to demonize those in the oil chain).
Q. What might be a reasonable price for crude?
A. In numerous interviews earlier this month, I was asked to predict a reasonable range for crude oil futures through the remainder of 2008. I projected that $85-$130 bbl might be realistic, noting that the research of Goldman Sachs ($115 bbl projection) and the Department of Energy ($125 bbl or so) was pretty reasonable.
I had no idea that we would see crude oil prices range between $90.50 bbl (September 15) and $130 bbl (brief moment on September 22) in less than six business days. That speaks to the bipolar nature of this market, and the tremendous emotional component that drives prices.
Q. What might be a reasonable price for retail gasoline?
A. I’m a bit baffled by gasoline values. Crude oil costs about $108-$110 bbl right now, and yet the futures market is pegging gasoline at virtually no profit margin over crude. That seems to be a miscalculation - - I believe that many of the recent buyers in crude are financial players (those wonderful Wall Street guys) and their choice for positions in energy commodities are WTI futures. The volumes traded each day in the crude oil arena are about ten times what is traded for gasoline futures. Hence, crude may be propped up by the banks, hedge funds, commodity pools, etc, while there is no such support for gasoline.
If I were a trader, I would bet that gasoline and diesel will outperform crude oil over the next 30 days. However, I should stress that whenever I play the “If I were a trader” game, I often get bloodied and bowed by the vagaries of the market. If I were a trader, I might look like a character in a George Romero movie. To go back to the relationships metaphor, I knew that Charlie Sheen and Denise Richards’ marriage wouldn’t last. But it lasted for about three more years than I thought it would.
Q. You haven’t answered the question. Where do you see retail gasoline prices headed?
A. I think wide ranges will prevail. The present retail average of $3.75 gal is about 50cts gal too high given the normal relationship between retail gasoline and crude. But we can’t expect normal to be the backdrop until late October. So I think prices will continue to jog around $3.70-$3.80 gal for the next few weeks or so; maybe a little bit lower or a little bit higher. Once refining production is balanced, I believe that we are looking at retail prices of $3.25-$3.50 gal, or perhaps less. Those numbers are based on a crude oil value of about $110 bbl.
Q. What about diesel fuel and heating oil?
A. I’m also worried about price and supply for diesel fuel, and certainly anyone with a sense of history has to be concerned about heating oil prices this Winter.
In 24 of the last 25 years, we have seen a strong Summer/Fall rally in these products. This year has brought some chaos in Gulf Coast refining, and we saw some sharply higher prices in the international markets on Monday. The U.S. may be a net exporter of diesel fuel in the last 99 days of this year. That is the price one pays if one is a member of the global market, but it also points to very high costs for trucking companies, fleets, and northeastern homeowners. Keep a close eye on Europe, South America, and the Far East - - if prices continue to rise there - - we’ll see higher prices for heating oil and diesel even if crude oil stabilizes around $110 bbl.
Q. What about the financial crisis and the $700-billion bailout? What impact will it have on prices?
A. Yesterday’s money flow into commodities may be an exception, rather than a rule. If global economies slow because of the ill winds generated by your friendly investment bankers, this should depress, not elevate, petroleum prices. I can’t imagine that the fourth quarter of 2008 will see any resurgence in U.S. demand. The comparisons year-on-year may look more favorable, since we approached $100 bbl and that slowed energy demand in the fourth quarter 2007, but we still may be hard pressed to match or exceed those levels.
It almost seems ridiculous to make projections for an entire calendar quarter. If we’ve learned one lesson in the last two weeks, it’s that markets don’t wait. They now make the moves that took weeks of interplay in one lively session. So much for stability.