Putting Gasoline Inventories into Perspective

Weekly Oil Inventories showed a net BUILD of 1.7 for the week ending April 21, 2017; Crude draw overshadowed by a BUILD of 5.9 in Gasoline and Distillate stocks combined:

This week’s gasoline build of 3.3 flips the 3 week total to a net build of 1.9 as seen below making for a dismal comparison to the same 3 weeks in 2015 and 2016 (see detailed stats in Figure 1).

The Fundamentals:

While the 3 week changes are more reflective of the end of refining maintenance season when crude oil inventories begin to draw down and product inventories increase, the continued build of gasoline is the bottleneck and a point of contention for a balanced market.  Until there is evidence of increased demand drawing down this inventory, gasoline cracks will be under pressure.  The refining incentive to produce gasoline has been high and will continue to favor gasoline unless near-term spreads retreat.

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The term structure of RBOB gasoline crack futures week over week reflects the pressure on near-term margins:

RBOB, Curve Shift, RBOB Crack Spread, Refining Margin

The shape of the curve also represents the seasonality of gasoline demand and refinery outages.  If stocks continue to build at current rates, we should expect the front month cracks to shift lower until production responds.  Watch the June7/June8 RBOB crack spread which moved from $0.50 backwardation last week to almost $0.70 contango this week.

Compare the EIA chart below to the shape of RBOB futures curve. Historically, gasoline inventories tend to level off or decline at a slower pace during the summer until building again towards the end of the year.  To date, we are sitting at the top of historical 5 year ranges.

EIA historical gasoline inventories, EIA inventory projections, Distillate Inventory

Gasoline build, Distillate Build, Inventory glut

Prices across the Petroleum complex fell another 2.5% week/week in response to Inventory report:

What’s most notable this week is the relative shift in US prices (LLS and WTI) versus European and Mid-East prices (Brent and Oman (see Figure 3 for detailed price curves).

WTI, Brent, OMAN, USGC Sour, LLS, WTI Oman spread, LLS Brent Spread

Bottom-line, incremental demand for US crude will come from Asia and the Middle East.  Like all refiners, they are interested in the most competitively priced grade of crude oil.  There won’t be a massive outpouring of US crude oil from the Gulf Coast unless price spreads support it.  We have seen an expansion of pipeline and export infrastructure into and around the Houston/Corpus Christie area to enable export demand.  Since the majority of USGC refineries are still consumers of medium to heavy sour crude oil, finding a home for US light shale oil is key.  Any relative weakness of US prices can be viewed as a competitive advantage. 

Speaking of competitive advantages, the much-anticipated Dakota Access Pipeline is scheduled to begin operations in May.  This offers an alternative to oil transported by rail out of the Bakken area.  Rail transport costs to the Gulf Coast average between $7.50-$11.00.  Transport rates on the new pipeline are  in the $5.50-$7.50 range depending on service level.  This basically cuts the delivered price of Bakken oil into the USGC by an average of $2.00 and makes it more profitable to move barrels south versus by rail to the East Coast.  Now it’s just up to spreads like LLS/Brent to provide the export economics.

The OPEC cuts at the beginning of this year were focused on sour grades, which have since garnered a premium to lighter, sweeter grades.  This is forcing the hand of refiners around the world (including in the USGC) to enhance their ability to process the cheaper, lighter oil grades.  These type of changes take time, but speak volumes regarding economics.  If light, sweet shale is here to stay and OPEC cuts have made heavier crude grades more expensive, the long-term impact could be that refiners will shift their operational capability in favor of lighter oil.  We know that Japanese and other Asian refineries have been testing their capability to refine US shale oil in anticipation of a cheaper supply source.

With all the talk of growing US crude oil production, it’s easy to lose sight of OPEC cuts versus US growth.  As of the last production figures, OPEC production cuts have been greater than US production increases.

OPEC cuts, US production

This is why the May OPEC meeting is important.  Will they continue to limit production of the heavier crude grades that current refining capacity craves at the expense of impacting a long-term shift in refining preference for cheaper, light shale oil?

Crude oil futures, weekly price change, LLS WTI spread, USGC Sour Crude oil, Brent Dubai spread, Dubai futures

Refined product prices also took a hit this week.

The build in gasoline inventories led to a decline of 7.5% this week of gasoline cracks while the blended gasoline and heating oil 3:2:1 crack spread fell a bit less at 6.7% (See Figure 4).  Any relative increase in distillate demand could help support overall refining margins and take the pressure off of gasoline production.

Another component of the summer gasoline season is ethanol blending.  So far, the selloff in crude oil and gasoline prices haven’t translated to ethanol prices:

Ethanol futures, ethanol blending, rbob futures

With 2017 blending mandates already in place, the ratio of ethanol to gasoline prices is a dynamic to keep an eye on.  This past week, we saw the ratio move above 1.0 in parts of the term strip meaning ethanol prices are higher than gasoline prices.

ethanol vs rbob


Week Ahead – Expectations and Wild Cards:

As noted above, the key items to watch in the upcoming week are:

  • US term structure vs Europe and Asia and the LLS/Brent spread
  • Gasoline Demand and the crack spread term structure
  • Distillate margins
  • Discussions surrounding the May OPEC meeting.