Refining margins can be wherever we like to think they are. They can be pulling in large returns or small inefficient margins, US refiners are all working on borrowed time.
The market has fallen into a new paradox where maintenance has taken a backseat. This is about rising prices in crude, weakening demand for commercial fuels and imports and having cash in hand rather than credit on the books.
Between the crash of the financial system, the global recession and the emergence of the Far East, the market is right between a rock and a hard place.
It’s always been about the economy
The US is still the largest consumer of oil and refined products by nearly 10 million b/d. In 2008 the market hit a peak in WTI at $147 (€105) and by the time the recession had wrapped its hands around demand, the price fell down to $33. Can this happen again? Probably not.
In 2008 the US was running overall demand at an average pace of 20 million b/d. The market was already feeling the effects of a slowing economy as it dropped off the record high in 2007 of 20.9 million. By the time recession came in 2009, demand slipped all the way off to 18.9. Yes, that happened that fast, that quickly.
In hindsight, growth might have been a bit too aggressive back then. Now the market has been working diligently to recover and by all economic indicators, that return to glory has been a slow grind. Compared to oil demand, the results are quite similar. This year the average overall demand is a paltry 19.1 million. Nearly three years later the best the market can do is a 200K b/d gain. There is not much room left to fall, but the potential to recover is ours for the taking.
Sneaky $4 prices
2011 has seen an average record high price for retail petrol of $3.56, even in a weak demand environment. Normally there is weaker demand into the winter so one might expect a relief in prices headed into the next few months, but it is not that simple these days.
There have been weak refining margins everywhere outside of the Midwest region. In a story that has dominated this year; the market has been at the mercy of the WTI/Brent blowout. Most oil that is imported to the US is priced against the Brent contract. Since the Brent is waterborne deliverable crude it compares to all crudes put on the water for transport. Brent has averaged nearly $20 higher than the landlocked WTI this year. This can be attributed to the loading issues in the North Sea, the declining production rate and the loss of Libyan crudes to Europe. These issues are not going to be solved in the near term. The North Sea normally has more issues in winter and Libya is a large bet to place on production into the next year.
Refinery: an expensive storage facility
Putting together the issues discussed here has brought us to our current quandary. We have an affordable benchmark as WTI sits in the $85 range. What we don’t have is an affordable way to make money producing commercial fuels.
Outside of the Midwest region refiners who have access to WTI crude and are able to run this crude efficiently, does anyone have an opportunity to run and make money? On the East Coast several refineries have tried to sell their units or shut them completely this year (Sunoco Girard Point and Philadelphia; Conoco Trainer). These three refineries represent nearly 700K b/d of the refining capacity currently on the East Coast. This is in addition to the closures over the past two years (Sunoco Eagle Point and Western Yorkville). Valero had closed Delaware City, but it has since been bought by Tom O’Malley’s PBF Energy. This is a direct effect of declining demand, higher operating costs and rising costs for imported crude.
The lack of refining capacity on the East Coast has now created stronger demand for storage. Looking ahead the refined product market will be forced to rely on more products to come up from the pipeline system form the Midwest and Gulf Coast refiners. If it becomes efficient to bring refined products over from Europe, more storage will be needed for those products too.
Backwardation might have an extended period and make storage look unattractive, but if demand does ease into winter, there might be a window of opportunity to make the most of this time. Of course, the oil producer who can have barrels available at a call is going to be the one holding the winning cards as the economy recovers.
The conclusion here is that there’s no solution that we can rely on. The rules have changed, the situation continues to shift and nothing is certain regarding supply. We cannot look back at historical trends or price based on forward assumptions that have worked in the past. What we do know is that refineries are far from restarting and that production is better counted as gone.
We know that the pipeline system has been built to feed the East Coast and is not built to rely on imports to deliver into the system. The one thing that is cyclical is global economic recovery. We all know that sooner than later we’ll return to a healthier economy and with that US demand will recover. At that point we’ll be looking at less refining capacity, more demand and higher oil prices. Much higher.
THE FULL ANALYSIS CAN BE FOUND IN THE NEXT ISSUE OF TANK STORAGE MAGAZINE