As OPEC-plus gathers in Vienna for an in-person meeting on June 4, many attendees can expect crude oil prices to rise towards the end of 2023 as global balances between the supply and demand tighten. However, unless OPEC-plus countries make significant production cuts, crude oil prices will instead come under intense pressure if the projected supply-demand gap materializes. not. High interest rates could also prompt major US independent refiners and other companies to reduce inventories by buying less crude oil. Indeed, the current reality is that US refiners rule the world oil market, not OPEC-plus. The big four American independent oil refiners (Valero, Phillips 66, Marathon Petroleum and PBF Energy) also know that President Joe Biden has their backs, meaning he will supply them with the crude they need in case emergency. Welcome to the new world of oil.
US independent refiners have every reason to tighten markets and maintain high margins. These companies have also used the California market to hone their tactics for maintaining high margins – margins that will “rob” oil producers in the absence of further production cuts. U.S. Gulf Coast refiners have additional advantages over the rest of the world: they have easy access to domestic light and sweet crude and, if needed, the ability to refine high-sulphur heavy crude. The very low price of American natural gas makes it profitable.
These refiners can still game the system because the potential crude volumes available for export exceed export capacity. By substituting or threatening to substitute heavy, sour imports for domestic crude, they can (and have) forced US sellers to accept substantially lower prices. These discounts now also affect the world price of rough.
Advantages of American Refiners
The United States is the largest oil consumer in the world. It is also the largest oil producer in the world, but still depends on imports to fill the gap between consumption and production. In the past, reliance on imports made the country vulnerable to the market power of oil exporters. Market power, defined as “the relative ability to manipulate the price of an item in the market by manipulating the level of supply, demand, or both”, in oil, however, has shifted from exporting countries to the United States and its big four. refining companies which together can process up to 8 million barrels per day.
Big Four capacity on the US Gulf Coast is 3 million bpd, or one-third of the region’s total. They have an added advantage that most of their refineries are complex facilities that can process light sweet crude like West Texas Intermediate or heavy Canadian or Middle Eastern crude. And under the current circumstances, Valero and the other big companies can drive down US crude prices, and those actions can influence global crude prices. The market control exercised by these companies stems from their ability to increase or decrease their crude oil and product inventories, change their crude mix and adjust processing rates to keep product inventories tight.
The Big Four are also benefiting from the opening of the US crude market while the US petroleum products market is not. Thanks to the lifting of the export ban in 2016, American producers can export crude oil without limits. However, the capacity of the export facilities is limited. Thus, American sellers have to accept lower offers from American refiners, especially the Big Four, fight to export their oil, or store the oil in a backward market where the loss ranges from $1.50 to $3 per barrel.
US refiners are further advantaged by the limited capacity of domestic product terminals. High processing margins could not be maintained if large volumes of imported products reached US markets. They were also aided by the US desire to use its Strategic Petroleum Reserve (SPR). The release made to offset the impact of Russia’s invasion of Ukraine has allowed these companies to reap huge financial returns over the past 12 months.
Offsetting the OPEC-Plus challenge
Independent refiners in the United States, especially the Big Four, will want to maintain the extraordinary margins they have achieved over the past year, even as oil-exporting countries try to adjust their oil production and increase crude prices.
While OPEC-plus’ chances of hitting its target will be tough if consumption doesn’t rise as some forecasters expect, refinery margins could also come under significant pressure over the rest of the year, especially as new refineries come on stream and discounted Russian products are pushed into markets once dominated by US exports.
However, unique circumstances in 2023 could help maintain high margins in the United States. The main special conditions are the desire of American refiners to reduce crude runs, the changes made by Platts in the calculation of the dated price of Brent used to determine many oil transactions around the world and the increases in the interest rates of the central bank. Given the good margins today and the lack of terminals to receive imports of foreign products, US refiners could react to an economic slowdown and export losses.
Help from the US Treasury
Changes in interest rates will also affect the amount of finished goods or commodities companies hold in inventory – inventories seem to decrease when interest rates rise and when storage costs rise. Both have risen sharply over the past year, and we expect a significant reduction in inventory over the rest of the year and possibly into 2024. Our very rough econometric estimates indicate a reduction of 200 to 400 million barrels.
The downward pressure on inventories will be accentuated by the greater fragmentation of the oil industry. Large, well-capitalized integrated companies have been replaced by smaller companies in many areas, and the latter will be less willing and sometimes less able to finance actions.
The Republican Party’s failure to extend the US government’s debt ceiling earlier this year will add downward pressure on stocks over the next six months as the government may soon borrow a trillion dollars. , crowding out other borrowers and driving up interest rates and oil storage costs. . The situation will worsen as the Federal Reserve has reduced the money supply by selling assets accumulated during monetary easing in 2020 and 2021.
The stock prices of large consumer marketing companies have risen sharply over the past year as these companies have consistently been able to increase profit margins while reducing volumes. Gains are sometimes made at the expense of producers. Consumers in Europe and North America have paid. American oil refiners have learned their lesson and are pursuing the same strategy. The days of low margins may be over until consumption declines.
Philip Verleger is an economist who has written about energy markets for over 40 years. A graduate of MIT, he has served two presidents, taught at Yale, and helped develop markets for energy products since 1980. Kim Pederson is editorial director of PKVerleger LLC. The opinions expressed in this article are those of the author.
