Here's Why Your Gas Prices Spiked This Summer

The primary summer driving season is over, and Labor Day, the last vacation weekend of the season, is fast approaching.

Travelers are winding down their end-of-summer vacation plans as we head into the autumn, and traffic between cities is lightening.

Normally, this time of year produces a decline in retail gasoline prices as the driving season ends and autumn and winter hibernation begins. And refineries are already switching primary production cuts from retail gasoline to produce more low-sulfur heating oil for the upcoming colder months.

But this summer, you may have noticed an uncomfortable anomaly; gas prices this summer in my home state of sunny Florida have reached three-year highs of $2.84 per gallon.

Your mileage may have varied from mine depending on where you live, but you have probably experienced something similar.

In this 2018 season, the expected adjustment downward is not kicking in as in years past.

So, why are we witnessing an unusual increase in costs at the pump?

There are two overarching reasons, each resulting from how available refinery capacity is being utilized...

Why End-of-Summer Travelers Are Seeing Higher Gas Prices

First and foremost, these days, processors are having to make more difficult decisions in apportioning refinery cuts - essentially the decisions that determine the mix of finished oil products. There is simply less leverage than there has been in the recent past, and that has led to a constriction in product supply.

Yes, gasoline demand in the ending summer period has come in a bit higher than average, while the ability to meet low-sulfur distillates (i.e. diesel and heating oil) has been more problematic than in the past. This likewise surfaces in the availability of naphtha, a refined product that is reinjected into the process, resulting in high-octane gasoline.

But there is another related matter of interest to travelers emerging as well: The pressure in the two primary distillates has introduced another concern further up the refinery cut in the cost of high-end kerosene production - better known as jet fuel.

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The combination of all these production factors means any market resilience for gas demand will be facing a collision with stubborn alternative levels of demand for other products.

Even on its own, this pressure facing refineries would be enough to raise gasoline prices higher than recent years as we move into the fourth quarter.

But there is another factor to consider that has an even greater global impact...

Reliance on American Crude Leads to Global Domination

For several years now, U.S. refineries have led the world in the export of oil products.

With the closure of less efficient, smaller, and more limited-in-production-range plants in Europe and elsewhere, more parts of the world have become dependent upon the availability of American processed volume.

This is the reason why some countries known to provide large amounts of crude oil exports, such as Saudi Arabia and Russia, have been investing in upgrading refinery capacity to allow for the more expensive products at the higher end of the refinery scale.

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For example, less than 12 years ago, 42 of the 49 refineries operating in Russia could not consistently produce anything much beyond a coarse black fuel oil called mazut.

That meant a rising amount of crude sent to one of these plants would simply bypass the equipment totally and be sent abroad for upgrade to more expensive products elsewhere.

By upgrading a processing base, a country could increase overall export revenue, since refined products sell at a premium to straight crude oil.

The downside, however, involves heavy capital expenses, the need for access to very sophisticated technology, and a multi-year construction and diversification schedule.

At issue here is the Nelson Complexity Index (NCI)...

Efficient Refining Means Higher Prices at the Pump

Developed in 1960, the NCI established a readily available metric for quantifying and ranking the complexity and sophistication of refineries.

The metric is most useful in determining the upgrade costs of various refineries to meet market needs.

The NCI is expressed on a scale of 1 to 20. The lower the score, the simpler the refinery and its product is. The higher the score, the more sophisticated the plant and diversified the product.

Of interest in using the NCI approach is what it can say about the feasibility of expanding refinery capacity.

For example, it has provided a clear reason why the bulk of European processing capacity has been either limited in expansion, suffered contraction, or has been subject to outright mothballing. It is simply too expensive to upgrade the European refineries for the likely revenue flow generated from a new, higher-end product line.

U.S. refineries lead the world in average NCI (9.5, for example, to Europe's 6.5). There are some new units at Indian refineries owned by Reliance Industries boosting facility indices to between 12 and 14. On the other hand, the Texas City, Texas, refinery now owned by Marathon comes in at 15.3.

The point is direct and intensifying.

Much of the world is now dependent upon the increasing efficiency of American refineries and the export of product in much the same way that the U.S. in the not-too-distant past relied upon crude oil imports from other countries.

All of this means more diesel, naphtha, heating oil, and yes, high-octane gasoline is exported from the U.S. to more profitable markets abroad.

That is very good for holders of stock in, say, Valero Energy Corp. (NYSE: VLO), the largest independent American refiner that is also the largest exporter.

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The post Here's Why Your Gas Prices Spiked This Summer appeared first on Oil & Energy Investor.

About the Author

Dr. Kent Moors is an internationally recognized expert in oil and natural gas policy, risk assessment, and emerging market economic development. He serves as an advisor to many U.S. governors and foreign governments. Kent details his latest global travels in his free Oil & Energy Investor e-letter. He makes specific investment recommendations in his newsletter, the Energy Advantage. For more active investors, he issues shorter-term trades in his Energy Inner Circle.

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