Oil markets often react to what might happen long before it actually does, and this week offered a clear example. Talk in Washington about stopping diesel exports has pushed the price of U.S. crude further below its international counterpart. Yesterday West Texas Intermediate, the main U.S. crude benchmark, traded as much as $12.02 a barrel below Brent, the global benchmark. According to data from London Stock Exchange Group plc (LSE: LSEG.L), that was the widest gap since May 6.
The logic is simple. Refiners turn crude oil into products such as gasoline and diesel. If they cannot sell diesel overseas, they have less reason to buy and process as much crude, and weaker demand tends to push U.S. crude prices down relative to oil elsewhere.
The U.S. is the largest diesel exporter in the world. Morgan Stanley (NYSE: MS) puts the country’s net diesel exports at about 1.2 million barrels per day, compared with production of roughly 5.1 million barrels per day. Those shipments have helped fill a hole left by lost Middle East supply while the Strait of Hormuz remains largely closed. They have also helped replace supply from Russia, which has repeatedly restricted its own exports after Ukrainian drone strikes damaged its refineries.
Energy consultancy Wood Mackenzie has sketched out what a ban could mean. It estimates that roughly 700,000 barrels per day of surplus diesel and gasoil would flow into storage instead of onto ships, filling Gulf Coast tanks to capacity in just over a month. To keep inventories from overflowing, refiners would need to cut crude processing by more than 2 million barrels per day, or about 12% of current activity.
The pressure for a ban comes from the pump. U.S. diesel hit a record $6.528 a gallon this week and was still at $6.514 on Thursday, according to AAA, as the U.S. war with Iran disrupts global supply. That is a political problem for the Republican Party ahead of the November midterm elections. High diesel prices feed inflation, and farmers, a core group of supporters, feel the pain more than most.
Where Washington actually stands is hard to pin down. The President said on Tuesday that he supported a ban. On Wednesday, the White House denied reports that it was preparing a 90-day ban, and Energy Secretary Chris Wright said such a move would not bring prices under control. Wright has since contacted executives at several large refiners to see whether they would hold back diesel exports voluntarily, according to people familiar with the talks. Many analysts doubt a ban would help at all, warning it could make supply problems worse.
Normally, a wider gap between U.S. and global crude would encourage traders to buy cheap U.S. oil and sell it abroad. That has not happened, largely because shipping has become so expensive. Moving crude from the Gulf Coast to Asia on a very large tanker now costs around $50 million, compared with $16 million before the Iran war began, according to Signal Maritime. Bob Yawger of Mizuho Financial Group, Inc. (NYSE: MFG) estimates that U.S. crude now needs to trade about $8 a barrel below Brent just to cover freight. That is roughly double the old threshold of $4.
“International crude is carrying a higher scarcity and logistics premium, while U.S. barrels are struggling to clear abroad at current transportation costs,” said Shohruh Zukhritdinov, chief executive at oil trading firm NitrolOil. Kpler data backs that up. U.S. crude exports rose by only 45,000 barrels per day from July to August, reaching 3.72 million barrels per day. On a three-month average basis, September is on track for a third straight monthly decline.
Zukhritdinov put it plainly: “A wide paper spread is an invitation to test the arbitrage, not proof that the arbitrage is open.” For consumers, the growing gap may not be the good news it seems. Keeping diesel at home could ease pump prices in the short run. But if refiners slow down, gasoline output shrinks too, which could lift gasoline prices. Over time, reduced refining could send diesel prices climbing again as well.
