Like bartenders putting cheap alcohol into their cocktails, some U.S. refiners are reaping huge profits these days by relying on lowerquality crude oil to make everything from gas to diesel.
The difference is that, unlike martinis mixed with barnyard booze, these finished fuels, after a little extra work, are the same quality as those made with top-shelf ingredients and therefore fetch the same high price from consumers.
The world’s premium oil is described as light, sweet crude, and most refiners prefer it because it is low in sulfur, is easy to process and yields the most volume per barrel of the transportation fuels in greatest demand. This preference has been magnified by environmental laws that require the industry to produce cleaner-burning fuels.
But as the world’s oil thirst swells to more than 84 million barrels per day and producers struggle to keep up, the extra supply being brought onto the market, primarily by Saudi Arabia, is the heavy, sour variety. Trouble is, not all refiners have the equipment needed to process it.
As a result, the already high price of light, sweet crude has been magnified, with each barrel selling for more than $50 on futures markets. By contrast, there is a relative abundance of medium to heavy crudes that sell for much less, and that puts refiners who can process it in a very good position.
Depending on the precise chemical composition, lower quality oil is selling at discounts ranging from $7 to $17 per barrel, when compared with light, sweet crude. A year ago, heavy, sour crudes, whether from Mexico, Venezuela or Canada, were discounted by about half that much.
‘‘The sweet-sour spreads have never been this good,’’ said Gene Edwards, senior vice president of supply and trading at San Antonio-based Valero Energy Corp., the nation’s largest independent refiner and the leading processor of sour crude.
The gap has narrowed somewhat after the Saudis reined in production earlier this year to comply with reduced output targets set by the Organization of Petroleum Exporting Countries. And analysts believe today’s sharp price disparity is likely to narrow further over time, as more sour crude refining capacity is added and as Saudi Arabia or some other producer taps new fields that produce lighter crude to meet rising global demand.
However, assuming the global demand for oil remains strong, the discounts are not likely to return to historical norms anytime soon.
‘‘The same trends are likely to be in place for the next three to five years,’’ Edwards said.
Despite the extra costs associated with processing lower quality crude, the profit margins of independent refiners able to handle it are up sharply. For example, Valero reported net income in 2004 of $1.8 billion, nearly three times its results the year before. Valero’s shares have more than doubled in the past year.
Fadel Gheit, senior oil analyst at Oppenheimer & Co. in New York, said the decision in recent years by Valero and others to expand their heavy, sour refining capacity has proven to be ‘‘brilliant.’’
While the spread between sweet in sour is likely to narrow, ‘‘going forward, the differential is still going to be much higher than it was in the past,’’ Gheit said.