It’s easy to channel your “inner Seinfeld” and point at the Russians and Saudis for the diesel shortage. But in truth, it’s a tragedy of errors committed by US politicians – and US voters – that’s to blame.
Diesel, diesel anywhere?
Nor a drop to burn.
The diesel side of the energy equation continues to be utterly terrible for the market.
There’s a broad disconnect in the U.S. between PADD 1 (East Coast) and PADD 3 (Gulf of Mexico) that I’ve been discussing since the end of last year.
PADD is short for Petroleum Administration for Defense Districts. In plain English, PADDs split up the fifty states and DC into five districts.
Even with production above the 5-year average, we just don’t have enough capacity to make up the shortfall, especially as our imports are limited given the global shortage.
Here’s a table that show just how low our distillate (read: diesel) stocks are compared to its 5-year average:
It doesn’t look good, does it?
Here’s part of the problem.
There are only three ways to get product from the Gulf of Mexico to the East Coast:
- The Colonial Pipeline, which is filled to the rim. It goes from the Gulf of Mexico and terminates in Linden, New Jersey.
- A Jones Act Vessel, which is a ship built, owned, and operated in the U.S.
- By rail.
The last two are very expensive because of the limitations they put on underlying flows. There’s only so much product you can get on a ship or a train.
When we breakdown the market, we can see the U.S. is the shortest on diesel in the last 29 years.
The bright orange line is where we are now:
When we look at the East Coast, you can see how massively under supplied we are.
The issues really started when the Philly refiner blew up in June 2019.
This removed about 460,000 barrels a day of refining capacity, with a large amount of those refined products supplying the Northeast.
That thick light blue line is 2022. It’s a shocker!
New England NIMBYs (Not In My Back Yard!)
The Northeast is also the largest consumer of heating oil, which is now effectively road diesel.
And you’ll love this part.
Since 2012-2018, the whole region voted to replace traditional heating oil with ultra-low sulfur diesel.
This means that road diesel and heating oil are the same entity, which means that the blenders/refiners dye one red, so they know which is which.
So, you’ve got truckers and homeowners fighting over the same diesel. Think it drives up prices much? Think it crushes supply much?
How about building a pipeline or two to alleviate the problem?
“Not In My Back Yard!” the NIMBY exclaimed.
As you can see from the chart below, PADD3: Gulf Coast (the thick light blue line) is running close to “normal” levels:
But there is no effective way to get the excess from the Gulf of Mexico (PADD 3) into the East Coast (PADD 1). That is, the shortages will persist because there is no easy way to get diesel into the East Coast.
Most of the U.S. refining capacity is in the Gulf of Mexico, so the only option that the assets have on the coast is to push as much product into the Colonial Pipeline and export the excess.
It’s ludicrous!
There is a global shortage of middle distillate (diesel).
So, by the Gulf of Mexico exporting into the Atlantic basin, they can take away some demand and promote additional imports into the East Coast at (hopefully) reduced prices.
The Atlantic Basin, which includes Europe, is in dire straights as we head into the winter months.
Europe is also very short distillate, and there is little they can do to address the problem besides imports.
It’s important to mention that Russian imports were the main source of distillate for the region.
The Russia vs Ukraine war has removed multiple sources of heating and fuel: diesel, natural gas, and coal.
The Middle East and Asia
Two other key areas of availability are the Middle East and Asia.
But when we look at the UAE and Singapore (two key bellwethers for availability) we see the same scenario playing out.
Fujairah is at the lowest point since at least 2019, but things are slightly different in the region given the new refining capacity that the Middle East has built:
Singapore is also at the lowest level it’s ever been since at least 2005:
But the Middle East is different.
The Middle East are also the largest provider of “middle distillate” heavy barrels of crude.
This means they have the main ingredients the world needs to make a healthy diesel blend of products.
The OPEC+ cuts were just in name only, but it did remove some key blends from the market, especially the Saudi Arabian blends.
Why Structure Matters as Much as Storage
Many refiners in the U.S. and Europe were specially structured to run these crudes to create diesel.
In the Med many refineries were designed to run Arab Light/Medium or Iranian Crude Oil.
In Northern Europe they are designed to run Urals.
All three are interchangeable, but two will be unavailable to European refiners driven by sanctions and the 3rd is being reduced.
There are not many alternatives to these blends. The additional CPC (Kazakhstan) and Libya barrels will help, but it won’t yield the same type of output.
On the West African front, some grades have a higher cut of distillate, but on the aggregate, they can’t be run through a complex refiner.
Asia shipped the biggest monthly volume of diesel to Europe in nearly three years in September, with volumes easing slightly this month, according to data from Vortexa.
“Europe’s reliance on Middle East and Asian diesel supplies are likely to continue as the region approaches winter with low diesel inventories,” said Serena Huang, lead Asia analyst at Vortexa, via email interview.
Asia and the Middle East will continue to send product into the Atlantic Basin given the arbitrage opening driven by new Chinese refined product exports.
As more Chinese product comes to market, we will see additional flows throughout November coming into the U.S. and Europe.
Prices will remain at near record highs in these regions, which will attract flows and keep refiners active in targeting this specific cut.
Diesel crack spreads in the U.S. have surged, and just recently pushed to new record highs.
From the CME:
In the petroleum industry, refinery executives are most concerned about hedging the difference between their input costs and output prices. Refiners’ profits are tied directly to the spread, or difference, between the price of crude oil and the prices of refined products — gasoline and distillates (diesel and jet fuel).
This spread is referred to as a crack spread. It is referenced as a crack spread due to the refining process that “cracks” crude oil into its major refined products.
Even at these extreme levels, I don’t see a big move lower. But rather I see something more stable in the $70 range.
The current crack spread is sitting at about $67. As the weather turns colder, we will see a lot of support in these levels.
The elevated levels have a lot of staying power given the shortages in the global market and lack of refining capacity in the East Coast.
Until next time,
Freedom Financial News
