Released on August 31, 2005
(Next Release on September 8, 2005)

The Sum of All Fears
Hurricane Katrina was a catastrophic event with a human cost than cannot yet be fully evaluated. It was also exactly what oil market analysts feared the most this summer. Analysts contemplated what might happen should a severe hurricane impact oil production and refineries at the height of summer driving season at a time when gasoline inventories were low. Heading into the final week before the Labor Day weekend, inventories were very near the bottom end of the average range in absolute terms, but given growth in gasoline demand over the comparable year-ago period (gasoline demand is 1.2 percent above last year’s level over the last four weeks), the gasoline inventory situation was even tighter. With oil prices rising throughout the year, analysts wondered what might happen should a supply shock occur as well.

Unfortunately for many oil consumers, we will soon see what happens when a supply shock occurs when prices are already at high levels. But the extent to which analysts’ fears are realized will largely depend on how long petroleum infrastructure remains offline. Oil production platforms, import terminals, pipelines, and refineries were affected as a result of Hurricane Katrina, whose path took it directly over many production facilities in the Gulf of Mexico as well as many refineries in Louisiana, as well as one major refinery in Mississippi. As a result, crude oil prices and petroleum product prices have spiked over the last two trading days. However, unlike Hurricane Ivan, which was a major hurricane that affected oil facilities last September and had a more lasting impact on crude oil production in the Gulf of Mexico, it appears that Hurricane Katrina may have a more lasting impact on refinery production and the distribution system. Thus, while the spot price of West Texas Intermediate crude oil rose by almost $4 per barrel (about 10 cents per gallon) between Friday, August 26 and Tuesday, August 30, the spot price of gasoline in New York Harbor rose by 78 cents per gallon. New York spot prices for heating oil and jet fuel jumped by 24 and 34 cents per gallon respectively over the same period. The path product prices take over the next several days or even weeks will largely depend on how quickly refineries can get back to normal operations.

There are several factors currently inhibiting refinery production. First, employees that were evacuated from their homes need to return to work. While some refineries may have skeleton crews already, it may be some time before authorities let people back into the most severely impacted areas. As many companies have stated, the safety of their employees is of primary concern. Another factor impacting refinery production is the supply of crude oil. The Capline, a major crude oil pipeline that feeds many Midwest refineries with crude oil from the Gulf of Mexico, is currently shut down due to lack of electricity at many of its pumping stations. As a result, one refinery in the Midwest has already reported that it has reduced its production due to a loss in crude oil supply. With the recent Government decision that crude oil from the Strategic Petroleum Reserve (SPR) will be made available to those affected by the hurricane, there may be some relief for refiners that have reduced their production due to loss of crude supply. However, they will need to find a way to get the crude oil from the SPR to their refineries.

Another factor impacting refinery operations is the loss of electrical power. Refineries are dependent on electricity to run and in some areas it may take some time to get power restored. How quickly power can be restored to affected refineries will be a key factor in determining how quickly they can return to normal operations. Finally, refiners will need to perform damage assessments to determine what, if any, repairs are needed. Some refineries reportedly have been flooded, which could do serious damage to some of their units. The extent to which flooding may have caused damage to refineries will be a key barometer that market analysts will be waiting to hear in the coming days.

As time passes, the impact of a given shortfall in product supply will tend to be spread over a wider national and international market, lessening price impacts from those that may occur initially in more localized markets to balance short-term demand and supply. However, it may take a few weeks for available supplies to move where they are most needed. Increased supplies from unaffected refiners may also help to offset the loss of total product supply due to refinery outages, but the very high utilization rates of worldwide refining capacity even before Hurricane Katrina struck will tend to limit the size of any absolute supply response.

In summary, the impact Hurricane Katrina will ultimately have on oil markets will depend on how quickly petroleum facilities, particularly refineries, will be able to recover to pre-hurricane status. How high product prices reach and how long they stay at elevated levels will largely be determined by how quickly refinery capacity can be restored.

U.S. Average Retail Gasoline Falls Slightly
The U.S. average retail price for regular gasoline decreased by 0.2 cent to 261.0 cents per gallon. This is 74.4 cents higher than this time last year. Prices were mixed throughout the country, with the Rocky Mountains and West Coast both seeing increases of 3.7 cents and 3.0 cents, respectively. The West Coast continues to see the highest regional prices, averaging 274.1 cents per gallon. The average price in California gained 2.0 cents to 277.0 cents per gallon. Impacts from the much higher wholesale prices stemming from the effects of Hurricane Katrina will likely impact retail prices in subsequent weeks.

Retail diesel fuel prices also reached another all-time nominal high for the third week in a row, gaining 0.2 cent to reach 259.0 cents per gallon. This is the second week in a row that retail gasoline prices have been higher than on-highway diesel after a year of inversion. Prices were mixed throughout the country, with the Rocky Mountain region seeing the largest regional increase of 4.7 cents to 272.6 cents per gallon. The West Coast had the highest regional price, up 2.3 cents to 292.0 cents per gallon, and California prices added 0.8 cent to 304.5 cents per gallon. The Midwest saw a decrease of 0.8 cent to 253.2 cents per gallon.

Propane Inventories Dip
Most likely reflecting early storm preparations for Hurricane Katrina, U.S. inventories of propane inched lower last week by a modest 0.1 million barrels to end the week of August 26, 2005 at an estimated 65.4 million barrels. Although modest, last week’s dip in inventories may be the start of a period of inventory volatility that may last for some time as the petroleum industry on the Gulf Coast slowly repairs infrastructure damaged by the hurricane.

Regionally, East Coast inventories moved lower by 0.1 million barrels last week, while Midwest inventories posted a 0.2-million-barrel gain during this same time. Gulf Coast inventories moved down by 0.5 million barrels last week, while the combined Rocky Mountain/West Coast regions remained flat compared with their prior week levels. Propylene non-fuel use inventories were unchanged last week at 4.7 million barrels, accounting for a flat 7.2 percent share of total propane/propylene inventories compared with the prior week’s share.

Text from the previous editions of “This Week In Petroleum” is now accessible through a link at the top right-hand corner of this page.