U.S. refiners have been enjoying some very good times the past couple of years. Most important, refining margins have soared due to a tight global product supply/demand environment brought on by, among other things, the post-COVID demand recovery, refinery shutdowns, Russia/Ukraine war effects, and high natural gas prices. Traditionally, the bulk of refining margins have come from (1) robust “crack spreads” (the general yardstick for measuring overall refining sector health, simply by taking the difference between a basket of refined products and key light sweet crude markets like WTI Cushing or MEH) and (2) the lower crude-input costs that many refineries benefit from, either because of location-related advantages or their ability to process lower-cost crude like medium and heavy sours. But location discounts have narrowed in recent years due to the buildout of pipelines and, as we discuss in today’s RBN blog, the big quality discounts that complex refiners relished through much of last year and the first few months of 2023 have withered. The question is, why?
Just over a year ago, in a two-part blog series (Cracking Up, Part 1 and Part 2), we discussed the then-sky-high margins that U.S. refiners were enjoying and what was driving them. We also reviewed two common, rule-of-thumb measurements of refining profitability: the 3-2-1 and 2-1-1 crack spreads, which represent the operations of a hypothetical refinery. (A 3-2-1 crack spread is the difference between the cost of three barrels of crude and the sum of two barrels of gasoline plus one barrel of diesel, and a 2-1-1 crack spread is — you guessed it — the difference between the cost of two barrels of crude and the sum of one barrel of gasoline and one barrel of diesel.) We also noted that if you’re looking for more sophisticated regional margins across various grades, we’ve got those covered in our bi-weekly Refinery Billboard report and in the biannual Future of Fuels report.
In any case — and logically enough — refining margins depend in large part on the input costs refiners incur and the prices they receive for the refined products they make. On the input-cost front, many refineries benefit from their ability to access and use price-discounted crude. These discounts can come from either their ability to process cheaper crudes (due to quality issues such as sulfur, impurities, or distillation profile) or due to location advantages (the ability to take advantage of logistical bottlenecks and strong U.S. and Canadian production growth). As we said in the introduction to today’s blog, location-related discounts have generally narrowed over the past few years, compressing due to the buildout of pipelines, a subject we have covered in a number of previous blogs (like Even Flow).
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