Gaso­line prices are down - should we cel­e­brate?

Financial Mirror (Cyprus) - - FRONT PAGE -

Gaso­line prices across the United States are down; even in Cal­i­for­nia where prices are typ­i­cally at the high­est lev­els in the coun­try, it is pos­si­ble to pay less than $2.39 per gal­lon. The cheap­est states in­clude the Mid­west­ern states and Texas, where con­sumers can ex­pect to pay less than $1.68 a gal­lon. The sharp re­duc­tions in the price of crude oil have a sig­nif­i­cant im­pact on the price of gaso­line, but it is less than what one might imag­ine it to be.

Ac­cord­ing to the En­ergy In­for­ma­tion Ad­min­is­tra­tion (EIA), the av­er­age price of gaso­line in the US on 25 Jan­uary 2016 was $1.856, which is $0.188 lower than it was a year ago. When it comes to the com­po­si­tion of reg­u­lar gaso­line prices (as at De­cem­ber 2015), crude oil ac­counts for 42% of the price, refining makes up 19% of the price, dis­tri­bu­tion and mar­ket­ing makes up 17% of the price and tax­a­tion the re­main­ing 22%. Diesel (as at De­cem­ber 2015) prices are com­prised of 37% crude oil prices, 11% refining, 30% dis­tri­bu­tion and mar­ket­ing and 22% tax­a­tion. It is clear that the cost of crude oil is sig­nif­i­cant and is the dom­i­nant fac­tor in gaso­line and diesel pric­ing.

For the most part, con­sumers will be wel­com­ing cheap gaso­line prices. In a rel­a­tively short pe­riod of time, prices have lit­er­ally halved from over $3.50 a gal­lon to their cur­rent lev­els. Nat­u­rally, this places more dis­pos­able in­come in your back pocket which can be used for things like sav­ings. The retail sec­tor did not ben­e­fit as ex­pected from in­creased per­sonal dis­pos­able in­come in Q4 2015. Sav­ings lev­els in­creased, but retail was largely flat. Cheap prices for crude oil are the norm nowa­days and with plung­ing com­mod­ity prices across the board, no­body is quite sure where the bot­tom lies.

The beauty of de­clin­ing oil prices is that it trans­lates into dis­cernible sav­ings at the pump and that is eas­ily seen by any­one who pays for gaso­line. The sav­ings that are gen­er­ated in this way are sub­stan­tial. On 30 July 2014 the price of reg­u­lar gas per gal­lon in the US av­er­aged around $3.51, and has steadily de­clined un­til 17 Jan­uary 2015 when it was trad­ing in a range be­tween $1.97 and $2.14 per gal­lon. There­after the price of gaso­line in­creased un­til mid-June 2015 when it was av­er­ag­ing $2.66 – $2.83 per gal­lon. Since then we have en­dured a seven-month pe­riod of de­clin­ing prices to its present level at around $1.75 per gal­lon.

When the price of crude oil hit a 12-year low of $26.55 a bar­rel, con­sumers may have been cel­e­brat­ing, but oil com­pa­nies and equity mar­kets were reel­ing. There are sev­eral fac­tors com­ing to­gether to make it dif­fi­cult for mar­kets to rally in the face of crude oil de­clines. The strong USD is a dis­in­cen­tive to eco­nomic growth when emerg­ing mar­ket cur­ren­cies are fac­ing in­creas­ing weak­ness. Dol­lar­de­nom­i­nated com­modi­ties, like crude oil, sell less when the USD is strong. This is ex­ac­er­bated by the fact that the Fed­eral Re­serve is look­ing to hike in­ter­est rates fur­ther in 2016. While noth­ing con­crete is in the pipe­line for March 2016, the state­ment re­leased by the Fed on Jan­uary 27 did not rule out the pos­si­bil­ity of grad­ual rate hikes through­out the year.

Whether or not rate hikes come to pass is doubt­ful be­cause re­cent eco­nomic data sug­gests that the US econ­omy hit sub­stan­tial weak­ness in Q4, 2015. The prob­lem was an in­ven­tory build-up which was made worse by a ram­pant USD. With de­mand at multi-year low lev­els, busi­nesses found it dif­fi­cult to clear stock­piles of com­modi­ties like iron ore, cop­per, steel, crude oil, gaso­line and oth­ers. GDP spiked by 0.7% an­nu­ally and ma­jor cut­backs in free in­vest­ment spend­ing by en­ergy com­pa­nies is re­sult­ing in mass lay­offs across the board. The Fed ac­knowl­edged in re­cent state­ments that US eco­nomic growth weak­ened re­cently, no­tably in Q4 2015. If the weak­ness in global com­mod­ity mar­kets con­tin­ues in 2016, the next rate hike will prob­a­bly be pushed back un­til June 2016. With­out trade and in­ven­to­ries, the econ­omy grew at a rate of 1.6% for Q4, 2015. Crude oil prices are be­ing fur­ther weak­ened by the re­al­ity that Iran will be en­gaged in sales of up to 500,00 bar­rels of crude oil per day. Al­ready there are some 18 Ira­nian oil tankers off the coast with up­wards of 12 mil­lion bar­rels of crude oil wait­ing to be off­loaded. But there are sev­eral other things to con­sider in the equa­tion, no­tably the fol­low­ing:

Oil and nat­u­ral gas com­pa­nies are los­ing money at a rate of knots and this is im­pact­ing heav­ily on em­ploy­ment num­bers, pe­riph­eral in­dus­tries, ma­jor av­er­ages and gen­eral in­vestor sen­ti­ment.

Cheap oil can only con­tinue as long as OPEC and nonOPEC coun­tries con­tinue to over­sup­ply. That is un­likely since Rus­sia and Saudi Ara­bia are al­ready in ne­go­ti­a­tions. Most all an­a­lysts agree that the price of crude oil is go­ing to in­crease to­ward the $60 level be­fore the end of 2016.

China has been stock­pil­ing sub­stan­tial in­ven­to­ries of crude oil at cur­rent price lev­els; this is lead­ing to high in­ven­tory lev­els which are not be­ing cleared ow­ing to low de­mand. Shale oil pro­duc­ers in the US have re­ported losses of $26 bln YoY for Q3 2015 and many an­a­lysts are liken­ing what’s hap­pen­ing with crude oil to what hap­pened with the eq­ui­ties bub­ble that burst.

Crude oil pro­duc­ers are now fac­ing chal­lenges of an­other kind, with debts that can’t be re­paid as a re­sult of fall­ing rev­enues and prof­itabil­ity. To al­le­vi­ate th­ese stress fac­tors, banks have to re­assess their re­la­tion­ships with oil com­pa­nies and ne­go­ti­ate more le­nient terms. Just re­cently, Bank of Amer­ica made $500 mln avail­able for as­sist­ing strug­gling oil com­pa­nies.

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