Gasoline Prices: Watch Crude Oil Prices Instead, Be Wary of Retail Stocks, Ignore Politicians

YCharts has put together a 2-part series on the basis behind the price of gasoline and what to look for and what to avoid.


The first piece here focuses on the price of crude oil which statistically is the driver behind the retail price of gasoline.  You can debate what drives the price of crude (its not so much the speculators as one would think or the media portrays) for another post but below are the points to take away;

• Investors might be tempted to see higher gasoline prices as a reason to snap up shares of big oil, and it’s an impulse that makes a roundabout kind of sense. More production (drilling) would help big oil profits. The price of gasoline, though, is all but irrelevant. Gasoline represents is a tiny fraction of earnings for companies like Exxon Mobil (XOM) and Chevron Corp. (CVX), so $6 a gallon gasoline will do little for their share prices. Big oil makes more money when gasoline prices are higher simply because that means crude oil prices are higher. Gasoline is a refection of crude prices, not the driver of them.
• In other words, the only number that truly determines the price of a gallon of gas is that price of crude oil. And no U.S. policymaker – not Obama nor Romney nor Santorum nor Gingrich – has the power to price a barrel of crude. Those prices are set by world markets, which at the moment are looking at China’s insatiable appetite for the stuff and Middle Eastern conflicts that might restrict supply. OPEC, a group of 12 nations that holds the vast majority of the world’s oil reserves and accounts for almost half of all production, still plays an outsized role in setting oil prices. The U.S. is not one of the 12.

• The latest gas price run-up has had a limited affect on corporate profits so far. If it continues into the summer, however, expect phrases like “due to the high price of gasoline” to appear after disappointing earnings announcements from all sorts of companies. Shares of Darden Restaurants (DRI) and other casual diners, several of which are trading near 52-week highs now, tend to get sold when gas prices are high. Analysts already downgraded Family Dollar Stores and Kraft Foods (KFT) because with more customer money going to gasoline, less will be leftover for non-essentials and brand-name foods. We’ll see that logic again with $5 gas.

The second piece to the YChart series takes a look at how to follow the money when it comes to gasoline.  Some people look to the refiners but as the piece points out refiners don't really track the retail price of gasoline.  There are a couple other points to mention when it comes to refiners that YCharts do not address

1. Refiners are actually shutting down here in the US, why?  Because they are not profitable.  Big oil companies make their money from finding crude oil not from turning crude oil into gasoline.
2. You have the regulatory issues facing refiners which make it cost prohibitive to build a new refiner and make money at it.  I'm all for protecting the environment but it doesn't make it conducive for making a profit which would also help increase supply.

Here are a few points from the second YChart piece here

• profits in gasoline, just like profits in t-shirts and iPads, depend on the cost of the goods used to make them. And right now, the cheapest place to make gas is smack in the center of the country. Refineries in the mid-western states buy West Texas Intermediary crude as their raw material. Refiners working on the nation’s crust import crude at Brent prices. The Midwesterners have had a key competitive advantage since late 2010, when U.S. domestic drilling picked up and WTI started pooling like rain in the mid-continental states. There is simply not enough pipe to get it out as quickly as it comes in. The surplus caused a history-making flip in crude prices, allowing the price of WTI to fall below European-sourced Brent Crude. Until then, WTI tended to be slightly more expensive.
• The spread between WTI and Brent has grown with the U.S. reserves and with dwindling crude supplies overseas. This is a horrible situation for refineries in the U.S. Northeast and West Coast, as they import crude at Brent prices. Sunoco (SUN), ConocoPhillips (COP) and Murphy Oil (MUR) have pulled out of profit-challenged refiners there. But it’s a delightful development for HollyFrontier (HFC), Western Refining (WNR) and Delek U.S. (DK) who make all of their gasoline out of West Texas crude but sell it on Brent-based prices. Their shares are up 22% to more than 40% so far this year.

• How long will the spread last? There are few signs that it will go away soon. Building new refineries in the U.S. is prohibitively expensive, and expansion plans underway now aren’t expected to add significant capacity for a couple of years. Europe’s largest refiner filed for bankruptcy in January.