Impressive Performance For Valero And Marathon After The Lowest Levels Since 2012
Summary
- Refining companies follow the crack spreads like obedient puppies.
- The season for peak gasoline demand has arrived.
- An easing of social distancing guidelines would support crack spreads.
- VLO doubles from March through April.
- MPC is the leading US refinery, and its shares also doubled in one month.
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The crack spread in the petroleum market reflects the cost of refining crude oil into gasoline and distillate products. Heating oil is a distillate, and the NYMEX heating oil futures contract serves as a proxy for other distillates, including diesel and jet fuels.
The global pandemic has caused the highest level of volatility in many years in crack spreads. Social distancing guidelines caused the demand for gasoline to evaporate as many people work from home and have only ventured out for food and supplies over the past months. The demand for gasoline disappeared, and inventories grew, pushing the gasoline processing spread into negative territory for the first time since 2009.
Meanwhile, it has been a mixed picture for the distillate crack spread as airline traffic ground to a halt. At the same time, the supply chain continued to operate, causing demand for diesel fuel to remain at higher levels than jet fuel and gasoline.
Refining companies follow the crack spreads like obedient puppies
Crack spreads offer clues about the demand for crude oil, which is the main ingredient in the oil products. At the same time, crack spreads are real-time indicators for the profitability of companies that make significant capital investments to refine petroleum into oil products. Valero Energy Corp. (NYSE:VLO) and Marathon Petroleum Corporation (MPC) shares move higher and lower with the crack spreads.
Crack spreads have experienced significant volatility since mid-February. Since gasoline is the most ubiquitous oil product, it often impacts the share prices of oil refining companies the most.
Source: CQG
The chart shows that the gasoline processing spread fell from $20.76 in late February to a low of negative $3.55 in late March when markets across all asset classes were melting down during the height of fear and uncertainty over the global pandemic. Wild volatility in crude oil took the price of the gasoline processing spread to a high of $24.65 per barrel in late April. On May 4, it was trading at the $13.00 level.
WTI crude oil, which trades on NYMEX, fell into negative territory on April 20, adding to the volatility in the refining spread. When it comes to gasoline, WTI has a lower sulfur content than Brent crude oil that trades on the ICE exchange, making it more suitable for processing into gasoline. Therefore, the gasoline crack was far more volatile than the heating oil crack as Brent crude oil's higher sulfur content makes it the preferable petroleum for processing into distillates.
Source: CQG
The chart of the heating oil or distillate crack spread shows that it reached a bottom of $13.44 per barrel in late February, rallied to a high of $33.39 in late April, and fell back to a lower low at $13.10 level on May 4.
The season for peak gasoline demand has arrived
While distillates are year-round fuels, gasoline demand tends to reach a bottom during the winter months when drivers put less mileage on their automobiles. The spring and summer are the heart of the driving season in the United States, which is the time when gasoline demand peaks each year. The gasoline processing spread tends to rally during the spring as refineries process more oil into the fuel to meet consumer demand.
The beginning of May is typically the time of the year when gasoline crack spreads are moving to the upside in anticipation of the coming wave of demand as the weather fosters more driving. The summer vacation season is vacation time leading to more road trips. Meanwhile, 2020 is anything but an ordinary year.
An easing of social distancing guidelines would support crack spreads
Many states are now easing some of their social distancing guidance. Some businesses are opening across the United States. Time will tell if a surge in coronavirus cases causes a return to stay at home orders, but if the virus peaked in March and April, we could see cars begin to return to the road.
After being cooped up in homes in March and April, many people across the United States are itching to get out and about, which would support gasoline demand. A combination of favorable weather conditions over the coming weeks and months and easing of the guidelines is welcome news for the refineries that depend on oil product demand for their survival.
Shares of VLO and MPC have moved appreciably higher from their lows in March when a combination of the lowest oil prices in history and depressed crack spreads caused their businesses to be a losing proposition.
VLO doubles from March through April
Last week, Valero reported Q1 earnings of 34 cents per share, beating consensus EPS estimates of a loss of 15 cents. Even though Q2 will be ugly for the refiner, the price action in the shares over the past weeks reflects a return of optimism for Valero after they fell to the lowest price since 2012.
Source: Barchart
VLO shares closed at $93.65 on December 31, 2019, and fell to a low that was one-third the price on March 18 when they traded at $31.00 per share. Since then, the stock recovered to a high of $66.94 on April 29. The stock moved higher with the gasoline crack spread, which peaked at $18.67 per barrel on April 28. VLO shares closed at $58.76 on May 1 and was over $61 on May 4 as selling returned to the stock market, and the gasoline processing spread fell to $13.00 per barrel.
MPC is the leading US refinery, and its shares also doubled in one month
Marathon Petroleum Corp. will report Q1 earnings on Tuesday, May 5. Consensus EPS estimates are for MPC to lose 31 cents per share. MPC is the leading US refiner, operating the Galveston Bay and Garyville refineries that both have a capacity of over 500,000 barrels per day. MPC operated two of the three leading US refineries. Saudi Aramco, the world's leading oil company, operates the biggest US refinery, Port Arthur, that has a capacity of over 600,000 barrels per day.
Source: Barchart
MPC shares closed at $60.25 on December 31, 2019, and fell to a low of $15.26 on March 19 at the time the gasoline refining spread moved into negative territory as the stock market tanked and the fears of surrounding the pandemic peaked in markets. Like VLO, MPC shares more than doubled to a high of $33.91 at the end of April and were trading lower at $29.24 on May 1. On May 4, the shares were back over the $30 per share level.
MPC and VLO follow the gasoline crack spread like obedient puppies. The path of least resistance for both stocks depends on the easing of social distancing guideless and slowing of the spread of coronavirus over the coming weeks. Even though the shares of both companies have moved appreciably higher from the March lows, there could be more room on the upside if conditions improve over the coming weeks. On May 1, 2019, VLO and MPC traded to respective highs of $91.83 and $61.73 per share. While a return to anywhere near those levels is unlikely, both stocks have room to move higher if gasoline demand begins to improve over the coming weeks.
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This article was written by
Andrew Hecht is a 35-year Wall Street veteran covering commodities and precious metals.
He runs the investing group The Hecht Commodity Report, one of the most comprehensive commodities services available. It covers the market movements of 20 different commodities and provides bullish, bearish and neutral calls; directional trading recommendations, and actionable ideas for traders. Learn more.Analyst’s Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
The author always has positions in commodities markets in futures, options, ETF/ETN products, and commodity equities. These long and short positions tend to change on an intraday basis.
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