Traditional suppliers of gasoline to the US East Coast have responded with such verve to the shutdown of the Philadelphia Energy Solutions (PES) refinery that the risk of a spike in gasoline prices towards end-summer, which we highlighted last month, has receded somewhat. Aside from some minor blips, key USEC suppliers’ operations have proceeded smoothly enough to reduce the deficit to last year’s gasoline stock levels.
Gasoline flows from ARA were 50% higher than normal levels in July and early August, while low ethanol prices in Brazil have freed up near-record levels of high-octane blendstock for export to the USEC. Our analysis of last month’s data on imports shows that very little of the recent surge in imports has come from non-traditional suppliers.
In light of this import surge in July, the backwardation in the RBOB curve through Q4 19 is striking, especially amid rising demand concerns as the US-China trade war intensifies. Indeed, the strength in the backwardation in RBOB in Q4 19 contrasts starkly with the weakness in winter gasoline cracks. However, a number of key suppliers of gasoline to the USEC are due for maintenance, while non-traditional suppliers to the USEC have not yet appeared in force. Hence, the backwardation may be more sustainable than the slump in cracks in Q4 19.
Paradoxically, the steep backwardation in RBOB futures complicates the region’s resupply from non-traditional sources, as losses implied over longer sailing times mean more distant exporters East of Suez will struggle to profitably arrange arbitrage shipments. Yet if the USEC hopes to attract imports, it may run up against constraints; turnarounds at key refineries such as Sines, Mongstad, Porvoo and possibly Irving St. John are expected to be heavy, at least for now.
Amid high stocks on the USGC and the expected increase in runs ahead of IMO 2020, the likely tightness in gasoline should fade from November once turnarounds are completed. Additionally, the complete entry into force of the US’s Tier 3 gasoline sulphur rules means that exporters will likely destock higher-sulphur gasoline towards December, as a lack of sulphur credits will limit most imports to the 10 ppm standard from 1 January.
US refiners are unlikely to experience any major problems as numerous plants are operating hydrotreaters at lower severities due to the profusion of credits, while others are only completing new equipment to remove sulphur from gasoline. From next year, more severe desulphurisation will reduce octane production in the US just as competition for VGO from the marine sector begins—though not until November and at a low base then.
As a result, it seems unlikely that gasoline markets will get as weak this winter as they were last winter, when negative cracks were seen, unless the US enters a recession. We still think stocks will need to build over the winter to help meet summer demand due to the shutdown of PES, however. If cracks will not do the work, then winter-summer spreads will need to be wide enough to incentivise storage.