We could have witnessed big movements on oil and especially its derivates over last few days. For example, futures for unleaded petrol rose yesterday by more than 8%. The reason is Hurricane Harvey, which caused a huge devastation in the south of the USA (mainly hit Texas and Louisiana). Why do energy prices react as they react and what we can expect in the future?
In general, the impact on oil derivatives such as gasoline or fuel oil is clearly understandable. Their price grows up sharply. This is due to the decommissioning of many large refineries, which are concentrated around the Gulf of Mexico, near the export terminals. It is said that up to 1/4 of US processing capacities are out of service. Therefore refineries cannot produce gasoline, oils and other products in sufficient volume, which supports the price growth. However, this has opposite effect on crude oil. Disconnection of refineries causes crude oil to accumulate because there are insufficient processing capacities.
But the crude oil example is not that simple. In contrast to its derivatives, there are several contradictory influences. The disconnection of refineries pushes the price down. But Hurricane Harvey also hit on the offer side. Offshore platforms in the Gulf of Mexico, which are extracting oil through seabed drilling have been forced to discontinue operations. What is worse, the Eagle Ford area in Texas mainland has been hit hard. The area is one of the largest shale oil location, where more than one million barrels of oil are extracted every day. Most companies were forced to stop the extraction.
However, the key factor will be the volume of damages caused by the hurricane to local oil infrastructure. And this is so far unknown. There are short reports that some companies are already partially restoring extracting processes, but it is hard to say whether it is an unique case or more general status. We have also the regular autumn maintenance shutdown of refineries ahead. This year however, the refineries are expected to attempt benefiting from the higher price of gasoline and fuel oil, and this might postpone the regular shutdown.
It is also worth mentioning that one million barrels of crude oil from strategic government reserves was released. The aim of this step is to provide sufficient amount of the raw materials to refineries outside of the damaged area in order to strengthen the production of gasoline and other oil products. The real impact on the market is rather negligible. We need to realize that there are more less 500 million barrels of crude oil in strategic reserves of the USA, and about 20 million barrels are used every day. One million barrels of crude oil from reserves is insignificant from this point of view.
Now let’s have a look straight at the markets. Oil has relatively bigger daily movements, but is nothing extraordinary from the historical point of view. It is quite obvious that the different fundamental impacts are currently quite balanced, or the market is still not clear about the overall impact.
On contrary, prices of oil derivatives such as fuel oil or gasoline are rising. The most sensitive is gasoline, undoubtedly due to the ongoing motoring season.
But it is nothing serious compared to interdelivery bull-spreads on gasoline. As I have taught my students in the course, spreads are reflecting the situation on the physical market better than the underlying asset itself. This is often an advantage because they suppress unrelated external influences. In case the direct supply/demand is influenced, they tend to move relatively more than the underlying asset.
It is likely that the energy market will be wild for some time. Due to ongoing uncertainty or due to ending of exaggerating panic on contrary. I prefer to avoid markets in such situation. The price is driven by emotions and this is associated with higher risk. You can make a lot of money but also you can lose a lot in a very short time.