December 29, 2000
Heard on the Street
Refiners May Profit From
A Wider Crude-Oil Spread
By PETER A. MCKAY
Staff Reporter of THE WALL STREET JOURNAL
Some oil refiners are making an extra buck from a slick maneuver these
days.
The gambit is fueled by a play on two different grades of crude, and U.S.
refiners Sunoco and Tosco are among the best positioned to take
advantage of it, analysts say.
After an 18-month bull market for crude, the price of benchmark
oil-futures contracts has actually been falling for more than a month, to
about $27 a barrel from more than $35 a barrel on the New York
Mercantile Exchange. But in the cash market in which oil physically
changes hands each day, a $3.50 spread has opened between prices for
West Texas Intermediate oil, which is the most actively traded grade in the
U.S., and North Sea Brent, which trades in London.
Analysts say it isn't unusual for WTI oil to fetch a dollar or so more than
Brent oil in the U.S. market; refiners are willing to pay more for WTI
because they incur additional shipping costs to import Brent. But because
of voracious U.S. demand and tight petroleum inventories, a much wider
spread than usual has opened -- about 60% bigger than normal for this
time of year.
That more than covers shipping costs and means companies such as
Sunoco and Tosco that primarily refine cheaper Brent but sell their finished
product in the U.S. -- where the market is dominated by expensive WTI
-- stand to reap a windfall, says analyst Chris Stavros, an analyst with
UBS Warburg.
Sunoco and Tosco are particularly big in the Northeastern U.S., where
winter heating-oil demand is set to take off, he says. Both companies'
stocks are already up sharply this year, benefiting from the rising oil and
natural-gas prices that heated the overall oil-services sector, but some
think the shares have more room to run if the cash prices of the two grades
of oil remain far apart for some months.
To be sure, the spread will have to stay wide for the scenario to fully play
out. But analysts say that may be the case through at least the first quarter.
Among the reasons: Heating-oil inventories on the U.S. East Coast are
about 35% less than year-ago levels, while European crude-oil stockpiles
are in the middle of their historic range, according to Mr. Stavros. Also
pumping up the Brent-WTI spread: relatively colder weather so far this
year in the U.S. Northeast compared with Europe.
"What's really supporting this is some of the regional factors, particularly in
the Northeast," Mr. Stavros says. In recent years, the biggest spreads
between Brent and WTI occurred in the spring -- as U.S. refinery runs
moved up sharply toward a summer peak dictated by gasoline demand,
driving up the WTI price -- while they usually reached a low point during
the fourth quarter. "The Brent refiners selling into these local markets are
realizing margins that are really an off-season peak for them," Mr. Stavros
adds.
Besides a few small independent regional refiners with a heavy
Northeastern U.S. presence, Sunoco has about two-thirds of its refining
capacity concentrated in the region, while Tosco has about a third of its
1.35 million barrels a day of refining capacity there.
East Coast refining margins on Brent oil have averaged about $4.70 a
barrel so far this quarter, up a whopping 144%, or $2.77 a barrel, from
the year-earlier fourth quarter, Mr. Stavros calculates. The figures include
costs incurred through completion of the refining process, but exclude
overhead and transportation of the finished product afterward.
The wider-than-usual spread exists even as the member states of the
Organization of Petroleum Exporting Countries have been increasing crude
production in the second half, a factor in the falling price of the benchmark
oil-futures contracts. But much of that crude reaches European shores
before it does U.S. ones, and the time lag is another reason the current
spread between WTI and Brent may persist, analysts say. "The first stop
for that oil is Europe, then we're next" in the U.S., says analyst John
Kilduff, of Fimat USA, a futures-brokerage firm. Meanwhile, higher
demand for tanker space has boosted shipping costs of late, which is
another reason the price of Brent is being held down in the cash market.
"Those barrels are fighting for the limited space" on tankers, Mr. Kilduff
says.
But there is still room for Sunoco and Tosco to profit after paying to ship
the Brent to the U.S., Mr. Stavros says. The profits already are being
realized in company earnings, but he believes the two stocks remain
relatively cheap as they trade at about nine times the earnings he projects
for each company this year, compared with P/E ratios of 10 or more for
other energy companies. At 4 p.m. Thursday in New York Stock
Exchange composite trading, Sunoco, of Philadelphia, was up 63 cents to
$33.88; the stock is up 44% since Dec. 31, 1999. Tosco, of Stamford,
Conn., rose 94 cents to $34.06 on the Big Board; it is up 25% year to
date.
Both companies recently increased their earnings projections for the fourth
quarter, citing strong margins and retail sales. On Dec. 12, Tosco
President Jefferson Allen said the company likely will earn between 95
cents and $1.05 a share, compared with a consensus earnings estimate of
88 cents a share, according to a First Call/Thomson Financial survey of
analysts. The company earned $53.4 million, or 36 cents a share, for the
same quarter last year.
On Dec. 8, Sunoco forecast fourth-quarter earnings of $90 million to $110
million, or $1.05 to $1.30 a share, compared with analysts' forecasts of 97
cents a share.
Write to Peter A. McKay at peter.mckay@wsj.com |
