Outages as a result of Hurricane Harvey highlighted the vulnerabilities in the U.S. refining industry and, by extension, the country’s overall energy security. However, the sector’s recovery in the past six weeks and its flexibility during the difficult hurricane season reflect its resilience, sophistication, and continued competitive advantage in the global market. The structural shift in the U.S. refined products markets throughout this decade—with the U.S. becoming a net exporter—has benefited consumers, the country’s manufacturing sector, and the trade balance. Unlike most of the oil and gas industry, the refining industry was able to make money when oil prices crashed, and it is still performing well. U.S. refining should continue to see its market power grow, since domestic refiners are capturing market share throughout the globe. Their position could be compared to that of American companies such as Boeing or wheat farmers in the Midwest, which send their products to a large number of buyers throughout the international market.
Outages as a result of Hurricane Harvey highlighted the vulnerabilities in the U.S. refining industry and, by extension, the country’s overall energy security. However, the sector’s recovery reflects its resilience, sophistication, and continued competitive advantage in the global market.
The U.S. refining industry is having a challenging but profitable year. Increasing demand and lower stock levels have supported crack spreads. But hurricanes hitting the Gulf Coast in August and September caused damage and extended outages at a number of facilities. The situation now has, for the most part, returned to normal. A month and a half post-Harvey, refinery runs have rebounded to earlier levels. However, U.S. refined product stocks have fallen to normal ranges after reaching record levels early in 2017. Along with the leaner stock levels, a combination of continued demand growth, discounts for domestic crudes, and high refined product exports should support the sector moving forward. Downstream tightness is likely to persist into 2018 and beyond, a key factor—along with OPEC cuts—that will help support crude prices.
For the week ending October 6, U.S. refinery runs reached 16.26 million barrels per day (mbd), up from 14 mbd after Hurricane Harvey. The NYMEX 3-2-1 crack spread—an indicator of refinery profits—has fallen from a 2017 high of $27 per barrel on August 31 to current levels of $19 per barrel. Despite the decline, it is roughly $6 per barrel, or 33 percent, higher than year-ago levels (see Bloomberg graphic below).
U.S. refined product markets have considerably tightened this year. Gasoline inventories are now at 221 million barrels, down by 4 million bbl versus the same time last year, and in the five-year range. In the first quarter, they reached a record of 260 million bbl. Diesel stocks have seen an even more dramatic decline, thanks in part to rising domestic demand. Inventories are now down by 23 million bbl, or 15 percent, year-on-year and are falling toward the bottom part of the five-year range.
Despite the tighter conditions, the refining industry’s flexibility and the initially higher stock levels kept Hurricane Harvey disruptions from turning into a major and protracted products shortage. At least 17 refineries in the U.S. either shut down or cut runs due to hurricanes. However, some refiners outside the area hit by the storm delayed more than 3 mbd seasonal maintenance in September, motivated by high margins. This action helped reduce the number of gasoline station outages that certain areas experienced after Harvey. As can be anticipated when gasoline outages occur, some affected areas saw fist fights and verbal altercations over gasoline.
Amid higher crack spreads and the reduction of inventories, refinery sector profitability has improved and this is reflected in sector stock prices. Year-to-date, the country’s top refiner, Valero, is up 13.5 percent, while Marathon added 12 percent to its stock price. Smaller independents such as Holly, Phillips, CVR, and Delek have all seen gains of approximately 9-10 percent.
U.S. refiners are also continuing to gain market share outside of the country’s borders. In July, U.S. refiners shipped more than 3.6 mbd of finished refined products to foreign customers, a record.
U.S. refiners are also continuing to gain market share outside of the country’s borders. In July, U.S. refiners shipped more than 3.6 mbd of finished refined products to foreign customers, a record, with net exports reaching 1.6 mbd. Gasoline to Mexico and diesel to Europe and Latin America remain the key markets for U.S. refiners.
The outlook appears strong for refiners heading into 2018. The International Energy Agency (IEA) estimates that refined product inventories will fall by 200,000 barrels per day in 2017, after rising by 700,000 b/d last year and 1 mbd in 2015. OECD total product stocks are still above year-ago average, but they have moved into the middle of the average range, portending continued strength in crack spreads. The market will be tighter than we’ve been used to for the past several years. And developments may remain positive for refiners through the rest of this decade. Morgan Stanley recently said through 2020, downstream profits could remain strong as a result of tight supply and limited capacity additions, suggesting that the sector is heading into a “Silver Age.” In this tighter market, U.S. refiners should continue to dominate, taking advantage of shortages in other regions and the flexibility provided by higher domestic crude production from the shale boom.