Delta Air Lines has stirred things up with its latest departure

Delta is on track to land jet fuel barrels from its newly purchased Trainer refinery in the coming weeks, and has already started trading around the supply from its new facility, a radical idea that took off in early 2011 in a novel approach toward its biggest cost.

"The big question: Why now and why hasn't this been done before?" Delta Chief Financial Officer Paul Jacobson said at a September aviation conference.

Atlanta-based Delta merged with Northwest Airlines in April 2008, creating what was at the time the world's largest commercial airline, needing 220,000 b/d of jet fuel in the US. That's equivalent to a decent-sized US refinery.

Then, jet fuel crack spreads, the premium over the cost of crude oil, tripled and turned fuel into the airline industry's biggest expense at more than a third of costs. Delta has projected a $300 million annual savings from the Trainer deal, based largely on being able to take advantage of that spread as a refinery owner.

Finally, Delta is a natural consumer that spends $12 billion to buy 4 billion gallons of fuel a year. "We wanted to take a little bit more control of our high- cost commodity," Jacobson said after the presentation.

So in early 2011, the company decided to take an integrated approach to its fuel, breaking down cracks, transportation, taxes, trading and more. "The refinery strategy was born out of that," he said. "More and more, the exposures were linked with refining."

In May 2012, Delta's wholly-owned Monroe Energy subsidiary bought the idled Trainer refinery in Pennsylvania from what is now Phillips 66 for $150 million. Delta said it would spend another $100 million in upgrades to maximize jet fuel production at the 185,000 b/d refinery.

Trainer received its first crude shipments from Africa and the North Sea in August, started turning on units in September, and hoped to deliver the first jet fuel barrels to Delta by month's end.

Delta President Ed Bastian told a separate conference that the company was actively looking to source Bakken crude from North Dakota, which was not part of its model for $300 million in annual savings. Bakken crude is high-quality sweet crude like Trainer's Brent-based crude that Bastian said could be sent by rail and water at a cost $15 to $25 a barrel under Brent. He called it "another real game changer for Delta."

Other airlines and jet fuel traders will admit Delta is changing the game book, although they are less sure it will work to Delta's advantage.

"They're swinging for the fences right now, it seems like, on a lot of things they're doing," a fuel buyer for a major US airline said. "There's not one airline in the world that has bought a refinery. It's like going to Vegas. It's a big risk."

He conceded that mergers have created airlines that need larger volumes of jet fuel, and that restarting an idled refinery helps all airlines with the new supply. But he noted Delta is now a refiner, "so that refiner is going to look bad with the crack spread down."

US jet fuel market sources said Delta's restarting of the Trainer refinery already has put some pressure on prices, but they doubted the plant could be converted to more than double jet fuel output to 52,000 b/d without about $1 billion in investments. "I've never heard of a refinery yielding that much jet," a longtime broker said. "I just have my doubts."

"I will believe the yield when I see it," another trader. "They are not a refiner. They are an airline."

A jet fuel distributor said Delta's first goal is to get Trainer up and running and work on the yield later. "Thirty percent jet, that part won't even happen by next year," he said. "They're complicated machines."

Jacobson said the high yield will not be reached until at least next year. But he said Delta did its due diligence and considers Trainer a jet-centric plant that wasn't being run that way by Phillips 66. The company more than a year ago first looked at US Gulf Coast refineries, including Murphy Oil's 135,000 b/d Meraux refinery. It didn't buy Meraux; Valero Energy did. But Delta did pick up that refinery's manager, Jeff Warmann.

Jacobson said Delta remained committed to the strategy and studied the risks for more than a year before buying Trainer. He said hydrotreating and hydrocracking units already existed, that combined with the right crude, will help it reach 30%. "We wouldn't do if we had to spend $1 billion on a hydrocracker," he said.

A source with knowledge of Delta's trading arm, Epsilon Trading, said trading in the physical spot market has been underway there since at least mid-August, and up to 150,000 b/d at times.

Some US airlines formerly bought up to a third of their jet fuel directly from spot markets before 2001, but markets back then were more liquid. The fuel distributor noted that today's jet fuel markets are thin but balanced, as airlines entered term contracts with refiners or paid trading companies to source their barrels.

"I don't think a single player can change the structure of the market," he said. Delta has exchange agreements with BP and Phillips 66 for non-jet fuel out of Trainer, meaning Epsilon may need to sell excess jet fuel received in the US Gulf Coast, for example, or buy gasoline in New York if not enough is produced to exchange. "Their position is going to be easily figured out and people are going to know what they're going to do," he said.

Other airlines have been looking into becoming active in spot trading and even into buying a refinery as well, sources said.

But Delta has been onboard with this entire concept for more than a year. "Our main focus today is getting the refinery running," Bastian said. "It's a big opportunity. It's huge. "We're the only owner of a refinery who wants refined costs to go down."

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