Energy prices to normalise after Harvey impact

The Gulf of Mexico has been battered over recent weeks by the hurricane Harvey. This has led to huge destruction and disruption in a region of great economic importance for the US. Recent warnings have indicated that it could cost as much as $180 billion to reconstruct the region, with just $7.85 billion requested so far by the government. This brings the question of the debt ceiling into play, which is now likely to be reached earlier than previously anticipated. Should congress fail to agree a new debt ceiling level by the end of the month, we could see the US go into default soon after.

However, it is the energy sector which has grabbed the market’s attention, and with good reason. The US Gulf of Mexico is home to about 17% of the nation's crude oil output. Much of those operations were shut down in advance of the storm, and are likely to be affected going forward. However, while this should be beneficial for crude prices, the fact is that much of the production is off-shore, and likely to come back on track in the near future.

More importantly, the Gulf Coast accounts for over 45% of the US oil refining capacity, which has a number of implications. Refineries will determine the demand for crude (input), and the supply of the products of crude, such as gasoline and diesel (output). The degree to which these refineries stay offline will be a big determinant on where the prices of these products move.

So far we have seen a rise in the price of gasoline, due to lower supply, while crude prices began to move lower as demand waned. We have also seen the spread between Brent crude and US crude widen sharply, with Brent taking on a premium compared with the cheaper US crude. However, there is an argument that this temporary shift will provide an opportunity, as the gap between crude and gasoline, alongside Brent and WTI, is likely to tighten as operations come back online. We have seen that move begin this week, with gasoline falling back and crude rise as some operations kick back into gear. However, it could take some time yet for things to get back into full swing. For now, we may see further volatility, yet the likeliness is that a state of normality should resume in the coming weeks, bringing with it a likely tightening of the relationship between gasoline-to-crude, and WTI-to-Brent. Alternately, keep an eye out for gasoline prices, which will be likely to fall as we see production ramped up in the coming weeks.