Seasonal gasoline transition in US shapes refining strategies, blendstock trade

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Jeff Mower:

Hello and welcome to the Oil Markets podcast by S&P Global Commodity Insights. In today's episode we're digging into how winter gasoline specifications create new demand for butane, why that tightens the balance in an LPG supply and what that means for prices. I am Jeff Mower, Director of Americas oil news, and I'm joined today by light ends pricing manager Sarah Hernandez, senior price reporter Hunter Marrow and senior refinery news editor Janet McGurty. Welcome everybody.

Winter is coming and US gasoline starts the RVP transition to higher volatility, cheaper grades, blending components shift during this period from expensive reformate alkylate or heavy naphtha to cheaper, more volatile products like butane and natural gasoline. Refiners will slow down their FCC and reformer units and start with the seasonal maintenance while they ramp up their hydrocrackers and distillates hydrotreater units to increase diesel production in preparation for harvest season and heating season. And diesel, as you mentioned, is very tight right now, but we're going to focus on gasoline.

So Sarah, let's start with you. Why don't you walk us through the mechanics of the transition. You had mentioned that the last day for summer gasoline mandated by the EPA is September 14th, and I'm just curious, how does that transition work? Does the entire country transition at the same time or does it go region by region?

Sarah Hernandez:

Thank you, Jeff. The transition doesn't take place at the same time and the whole US, it starts mainly on the Atlantic Coast, but the reason why everyone thinks or considers that the Gulf Coast starts with this transition is because Colonial Pipeline starts reflecting higher RVP by mid-August. Then even when this transition is not happening on the Gulf Coast and all this product is going to be delivered at the Northeast, we have to consider that, for example, the New England region will start selling winter grades by September 15. But if we calculate back the amount of time that it takes to ship from the Gulf Coast to the Northeast, it will be about 15 days, 15 to 20 days from the moment that the producers fill their inventories and to the moment that the product is already available to end users, then that is why the Gulf Coast producers have to start producing this winter rates by mid-August.

For example, the first transition, we start the period with the reformulated gasoline, but on the Gulf Coast states, the need of low RVP will continue according to each state mandate. And for example, in the east of Texas, they hold the 7.8 requirement, 7.8 pounds per square inch or PSI's until October 1st. That means that they need to assess or estimate the cost of this low RVP material, and the Colonel pipeline is no longer that reference for these low RVP rates because they already are showing winter specification.

Jeff Mower:

Now I'm curious how that works as far as processes. I remember years ago when I was more involved on the price assessment side, you do sort of transition assessments. Is that-

Sarah Hernandez:

Yes, that's correct. We have this temporary assessment that we call the supplementals, but these RVP adjustments, we actually produce them all year round. So that means that we have a senior to estimate the premium or discount for different RVPs all year long and not just during the supplemental times that, for example, in the case of the Atlantic Coast, they only last 15 days and ones that they finish, they are not longer available. So these RVP adjustments are available there the whole year. And each pipeline has their own calendars, each state has their own mandate, so it's not easy for gasoline traders to track and to be aware and follow of all their transition, and that is why we try to provide the best tools for them and for market participants to have a comprehensible view of all the changes happening around

Jeff Mower:

Looking at the summer grades. How was the summer appetite for summer blends like alkylate, raffinate?

Sarah Hernandez:

This year was very challenging, talking from the spot market perspective, actually. So since Houston refining closed the year, Houston Refinery earlier this year, they were main providers or main market participants on the spot market for gasoline blend stocks. And since they offer is no longer available, the market has been pretty thin talking about the spot products. When you talk about alkylate, reformate and those or even naphtha, those products are not necessarily final products. Those are not things that the producers are trying to accomplish for the finished grade or for a final customer. They actually don't even have a standardized specification. So the offer of these products just come out if the finer has some kind of issue, if there is some accidental production that they cannot blend or they cannot use, and then those barrels become available to the public. Then this year the barrels trading on the spot market were pretty scarce. And particularly on reformate. Alkylate We saw more active market just because we had the offer of the Indian barrels arriving on Gulf Coast and along the Atlantic Coast. So there is a good amount of alkylate imports that were adding a little bit more liquidity. But Reformate was pretty thin.

Jeff Mower:

You're saying they're not really produced as an end product. But would the high price of reformate kind of draw more barrels into the market?

Sarah Hernandez:

Yes, and actually the price of reformate this year was stronger than in the previous year, and actually it's going back slightly above from when it was on 2020. So going back to the pre-pandemic trends, but has been particularly strong this year driven by the high demand of aromatics on the Gulf Coast and also by the good price of the export gasoline, which we follow up pretty related to the Unleaded 87, the Gulf Coast Unleaded 87 gasoline. So as demand for exports and demand for octanes has been increasing, reformate has been constantly used, and the aromatics and reformate in general, they have been pricing pretty well. However, the amount of barrels trading on the spot market are not pretty liquid.

Jeff Mower:

So I'm curious, and Janet maybe you can jump in here, I'm curious about just the supply of gasoline. When Sarah mentioned the export market, I know like I mentioned earlier, diesel is very tight right now, but is gasoline tight? It's usually not a concern as we had in the winter, but-

Janet McGurty:

Well, the way that refiners plan their seasonal maintenance is that the fourth quarter which we're heading into and the first quarter are always heavy maintenance seasons. And it's usually all the work's done on gasoline units, mostly because like you said, diesel's tight, which is again a whole nother story, but that's kind of what they do. So we have a lot of refinery work being done starting now, and we have some really heavy hitters down in the Gulf Coast who are working on actually reformers, gasoline components. You have Total, Port Arthur down, Norco and Louisiana, Pemex, Citgo, and then even Irving Oil, which is not in the US, but is a huge supplier of the U.S. East Coast for all things gasoline and diesel and other the LPGs as well. So supply is down a bit and also imports Esso's Fawley Refinery in the UK is one of the biggest exporters of butane to the US, but that's undergoing some work now. So it's very tight in ARA, the butane prices. Today, Platts assessed butane barges at 96% of the naphtha price, which is the highest level since March 2012. So you're seeing tighter butane prices going forward. But again, things are early. It's the beginning of the season, and again, like Sarah said, the East Coast starts first and we have not started to feel it yet.

Jeff Mower:

And so far we haven't had any disruptions from hurricanes. I mean, I don't want to jinx it. We're only early September, but it's been pretty quiet so far. But export, I think export demand's been pretty strong still for gasoline from the US.

Janet McGurty:

Well, Mexico is also, and Sarah can speak to this too, she follows this very closely. Their refineries have had some problems. First of all, we're waiting for Olmeca and Dos Bocas, right? That's kind of now one's quite sure how much they make, how much they don't. It changes because they're still in the stage of trying to get it optimized, I think, and they're not really running. But then two other refineries in Mexico had power outages and or fires, so they shut down for a bit. So Mexico's been importing a lot of gasoline.

Jeff Mower:

Since the export market has different specifications, volatility specs, how do market participants kind of adjust the specs they need against the US market?

Sarah Hernandez:

Well, first of all, to be able to adjust to the specifications that Latin America requires, they need more octane, they need lower RVP because Latin America has like nine pounds most of the year. Most of the countries oscillate between nine and 11 and a half pounds for the whole year. And even for example, places as Mexico City, they have as low as 7.8 psi the whole year round. Then they look for material with lower RVP and higher octanes to make sure that they can meet the specifications. That's why, for example, at this time of the year, octanes find a better value on the export market as reformate, alkylate aromatics, specifically aromatics and also MTBE. And this year MTBE has been pricing significantly below the Unleaded 87. So it held a discount against the Unleaded 87 for about two months. It recovered it a bit last weeks, but it has not been performing so well.

Then this is an advantage for exporters because they can incorporate this high octane, lower RVP material into their gasoline blendings and have a nice profit there. And in order to price the gasoline exports, they usually refer also to our RVP adjustments. The RVP adjustments that we produce, it can be reflective of a traditional discount of the butane value, what they call the butane blending value. In the case of the CBOB RVP plus one adjustment, that is how we call them. And that will be the equivalent to the butane blending adjustment that most of the market participants are familiarized with. And on the other hand, we also produce this RVP adjustment minus one PSI. That means that this adjustment is going to be used for gasoline with lower volatility than the CBOB of reference. And this is the one that is the most expensive one. Because if you try to find at this time of the year the components to blend and lower RPP blend, you will have to pay an extra cost for that compared to the reference that is already winter material. So that said, if you are looking forward to get a barrel to export, you always will price it above the reference that we have currently on the Colonial pipeline.

Jeff Mower:

Got it. Okay. So Hunter, how have butane prices reacted so far this year to their transition?

Hunter Marrow:

For the US, specifically? It's been a bit of an interesting trend in that as Janet alluded to with Europe, they've got a lot of tightness with their butane supply, but it's not really the same. The same can't be said for the US. Not only do you have butane arbitrages to Far East as well as to Europe in a lot of places globally that are rather narrow right now. And you have a narrow arbitrage for butane for exports coming out of the Gulf Coast. Well, I mean that supply is going to be staying domestically. It's not going to be going out, it's going to be staying domestically because of that. You have, I think year on year where probably several million barrels above where we were last year, at least that's according to our analyst estimates at this time because the Energy Information Administration doesn't really release weekly butane supply of days like they do with propane. But that's sort of our best estimation at this point. So with that supply, you sort of have headwinds on butane prices and sets a bit of a ceiling on how high of those butane prices can go.

I know that looking historically year-on-year on Enterprise butane versus where it was last year, it is slightly below those prices are where they were a year ago. And I think that that's a symptom of that higher year-over-year supply, which is probably a symptom of those narrow arbitrages for the butane coming out of the Gulf Coast.

Jeff Mower:

And what about other, I guess, demand for butane or sort of the broader LPG market and petrochemicals? Is there, is petchem demand still fairly weak?

Hunter Marrow:

I would say, I think historically Europe that's been the case, but I can at least talk to Sarah's point on, she mentioned the gasoline demand in Mexico is higher than it might normally be. And I think in general allude to a lot of the refinery issues going on in Mexico at the moment, that's also having an impact on propane, specifically for exports going to Mexico. I mean Mexico hasn't been of course the biggest market for US propane exports. But when you look at the export data for Commodities at Sea, I mean the month of August there was talking like 395,000 metric tons of propane that went to Mexico. And I mean that was about on par with July. But before then, exports had never reached that point until you're talking maybe January of this year. So the amount of propane going to Mexico at the moment is higher than it normally is this time of year. And I think that that is just a symptom of what Janet alluded to and also maybe what Sarah alluded to as well on the propane side.

Jeff Mower:

What about on the butane side? We can track butane exports, right?

Hunter Marrow:

We do. Yes, we do. There's been a lot of, I think that probably one of the biggest targets or sort of new destinations for butane from what I can understand is the Southeast Asia market in particular has been a growing butane destination. I know that India has also been a growing destination for butane, and I think that this has to do with the fall and winter residential demand that India has every single year. So that's not as much a surprise, but it's more of the Southeast Asia I think market that is really growing. I think that might have to do, if anybody's following in the news with sort of the trade news between the US and Indonesia in particular, they're really trying to become a bigger presence with butane imports from the US. And so for me, and I think that for many of us that are looking at the LPG market, butane exports, specifically, Southeast Asia is a growing region for butane in particular.

Sarah Hernandez:

However, allow me to make a comment here because we were studying this systems, this export systems for our new right assessment of LPG Houston-Mombasa right route. And we noticed that the LPG that was going to this part of Africa was a big part of butane and blended with propane or half and a half. Do you remember more or less with which was of the split of these products, Hunter?

Hunter Marrow:

Majority was butane from what I understand. And to your point as well, East Africa and the Mombasa port in particular has been a growing destination for LPGs. We looked at some of our data and before this year we really didn't see much product coming from the US to East Africa. And so to Sarah's point, that's one of the reasons why we decided to launch a new freight assessment from the US to the Mombasa port in Kenya is because we see that growing demand center in East Africa.

Sarah Hernandez:

And more interest also from the Indian market. So I think that the fact that the balance in the Middle Eastern, it's kind of uncertain and maybe the supply is not as long as it used to be in the previous years, this has been pushing to the African, Indian and Asian, maybe Southeast Asia sources to look at the Gulf Coast to see if they can find a reliable source of material. Maybe we don't know exactly the price of this material delivered there, but maybe at least it's reliable in the long term. And this is something that we have seen people looking for. What do you think, Hunter?

Hunter Marrow:

I definitely agree with that we have more data points when we're looking at the far East and Southeast Asia in particular. I know that East Africa we're getting more data points because there's growing interest there. But at least when you look at propane in particular, the last several weeks we've seen growing propane exports out of the US Gulf Coast going to places like Japan, for example. And I think that might have something to do with Japan has certain laws and regulations regarding its surplus and its own LPG supplies. And I think that in addition to that, that country has seen quite a bit of growth in its household, that LPG demand in the last several weeks. And I think that's why it's pulling the amount of propane and particular from the US that we've been seeing. But it is an interesting trend and that's something that we do continue to keep an eye on.

Jeff Mower:

I'm curious too, it's a pretty long distance. I guess there's a limited supply from the Middle East or?

Sarah Hernandez:

We think that it's kind of two things. We don't have this for certain, but for one side we know that the Middle East balance has been shorter due to the oil production cuts in the recent years. And the fact that a lot of people is looking for the same product in this region is pulling to the participants to look for alternate ways to supply their systems. And I think that also all the geopolitical tensions in the region also have been pushing participants to look for alternate routes to supply their systems or looking for the reliability of the systems. But that is something that we have been just observing in general.

Jeff Mower:

Interesting. Yeah, I wonder if any of the kind of Trump trade deals play into that at all. It's always debatable when Trump will say, "Oh, I did a deal with India or Japan and they're going to buy a certain amount of energy." But I spoke with one executive last week who was downplaying that just saying, "Well, it's usually market forces." You can try and take credit for it, but it does get you thinking, considering all of the negotiations going on, all the trade negotiations going on at the moment.

Sarah Hernandez:

Yeah, I think that there are a lot of factors going around and multiple things to factorize on prices and markets. And even, for example, we have not talked about the freight routes of the clean distillates. The freight has been also affected by all these geopolitical tensions and all these global situation. So it's kind of difficult to see the overall picture if you don't talk about all the specific pieces of the logistic.

Jeff Mower:

So I'm curious, Janet, on the diesel front, considering the high price of diesel right now, does that have much of an effect on gasoline or gasoline yields going forward? Or how much leeway do refineries really have?

Janet McGurty:

Well, the rule of thumb is that it's usually between five and 7%. The swing in yield, again, it depends on the refinery and the refiner and things like that, but with the diesel tightness, we seen renewable diesel which had margins, very poor margins, so poor that Diamond Green Diesel, which is a joint venture between Darling Ingredients, which provides the feedstock and Valero, which provides the transportation fuel expertise. They shut because of poor margins, DGD I, which is on site in Norco, Louisiana, where Valero has a refinery. So as diesel gets tighter, especially in places where you can use renewable diesel like the West Coast where the California and the Pacific Northwest, we're seeing renewable diesel looking better, the margins there because of the diesel tightness around the region because it's a drop in fuel.

Sarah Hernandez:

Janet, don't you feel like with these stronger margins that diesel has shown same as jet fuel against the gasoline ones, don't you think that maybe they are going to try to keep the production of gasoline as low as possible just to avoid growing up the inventories more than necessary?

Janet McGurty:

Oh, I'm sure. I'm sure. I haven't looked it up, but that's the normal way. You know how this works. I mean, if you're a refiner, you're looking every day at the cracks where they're going, and that's what you're deciding what your yield is going to look like, whether it's diesel or gasoline one way or the other. So yes, I think that's very true. But again, as we get into the harvest season now, which is starting right in Midwest diesel will get tighter.

Jeff Mower:

And to your point, Janet, they only have so much leeway, they can only increase diesel production so much.

Janet McGurty:

Yeah, that's right. I mean, again, like Phillips 66, their whole system is weighted more to diesel production. So they're really happy right now, I'm sure because diesel tightness and diesel prices. But we don't know what the winter's going to look like. And even though the heating oil market in the US and the Northeast has really diminished a lot, actually, it has LPG LNG. Massachusetts, which used to always be fuel oil, is now using LPG LNG for heating.

So there's just a lot of shifts going on in markets all around, I think. And back to the RVP issue, there's two pipeline hearings that are going on now where RVP is really important because as Sarah said, we price it plus or minus. So Colonial Pipeline is trying to capture the RVP ahead of time from the people who ship on it, and the shippers are saying, "No, we don't want to give you that." And on the Laurel Pipeline, Buckeye Laurel, who wants to again increase the amount of refined products coming from the Midwest into the East Coast by extending the bidirectional part of the segment closer almost to the New Jersey border. It bisects Pennsylvania, the Laurel Pipeline. So there again, RVP is an issue because Buckeye Laurel, they're asking that the RVP in the Midwest, that the US Atlantic Coast refiners are they're going to have to match it ahead of time. So it's a little bit confusing for people now. But RVP, I don't know if you guys, Sarah and Hunter, agree with me, but RVP has really kind of become an issue more than anything. And so butane, again, everyone likes butane because it's cheap, but sometimes if there's a problem with supply, that'd definitely be reflected.

Sarah Hernandez:

And the problem that we have been seeing on the north is that getting butane sometimes cannot be so easy and the availability of butane in this areas can be more restrictive than from example on the Gulf Coast where everyone has butane available right on hand. So that is why the Northeast system has been relying, and the Midwest as well. They have been relying more on the natural gasoline rather than butane. And we have been seeing more movements on colonial pipeline of natural gasoline and more appetite also for Explorer Pipeline. So in the last year, we saw a good amount of activity of barrels going up, not just for gasoline blending, but also for crude oil blending, talking about the natural gasoline and all this ones making not so cheap the winter gasoline because one will think that butane and natural gasoline are very abundant and cheap enough, and therefore the winter gasoline grades could be very cheap. However, if all this demand gets active at the same time, then prices really don't go as low as expected. And this could provide a little bit of support for the winter gasoline rates. Targa is already blending the winter plans for New York, and that is bringing another source of supply for this area. It's going to be a very interesting winter.

Jeff Mower:

All right, well thanks Sarah, and thanks Janet, and thanks Hunter for joining me. And thank you to our listeners for tuning in. If you liked this episode, please be sure to leave us a rating or review on your favorite podcast player. This Oil Markets episode was produced by Jen Pedrick in Houston.