The April switch in the NYMEX basis for distillates to ULSD from heating oil has led to decreased volatility in the Gulf Coast ULSD differential, the most liquid product Platts assesses in the Americas.
The specification for the NYMEX futures contract changed from heating oil to ULSD in April starting with the May contract. Since then, the Gulf Coast ULSD differential has averaged roughly minus 3 cents/gal and the standard deviation has been 1.3.
Standard deviation means the dispersion of a set of data from its mean. The higher the standard deviation, the more volatility there is in a product.
From 2009 to 2012, data showed the Gulf Coast ULSD differential averaged a little over 1 cent/gal with a standard deviation of 3.42 -- more than double the standard deviation shown in 2013.
Traders said the biggest reason for the stability in the differential is ULSD being hedged against futures of the same product rather than another product as was the case when heating oil was the basis.
"It certainly hasn't been an exciting trading market; it has stayed pretty range-bound," one trader said. "It follows the steadiness in New York Harbor [ULSD] since it [ULSD] is now the deliverable specification."
The more volatility in a product, the more potential there is for traders to make money.
"There's about an extra 3 cents/gal that refiners have lost following the switch," one analyst said.
Since April, the ULSD differential has been as low as minus 7.20 cents/gal and has high as plus 1.25 cents/gal for a range of 8.45 cents/gal. In 2012, the product showed a more than 20 cents/gal range from high to low.
"It is very boring now," a second trader said.
The lack of a major hurricane hitting the US so far this season and increased diesel production to make up for refining issues has also contributed to the lack of volatility. In 2012, Hurricane Isaac making landfall on the Louisiana coast, one of the US' biggest refining centers, led to the differential rising precipitously to 11.75 cents/gal. The differential then plummeted more than minus 10 cents/gal in November 2012 following Hurricane Sandy due to a lack of demand in the Northeast from the aftermath of the storm. SUPPLY ON HAND
Despite a slew of refining issues, including a hydrocracker outage at the 600,000 b/d Motiva Port Arthur refinery, the largest in the US, in August, the differential has rarely moved from a range between minus 4 and minus 3 cents/gal.
Refineries maximizing diesel production is a reason behind this, market sources said. When refineries are running smoothly, refiners and traders take advantage of arbitrage opportunities to Europe and South America. In the event of a major refining issue in the US, other refineries are able to make up for the loss to domestic production with supply on hand.
Gulf Coast ULSD production reached its highest production level in the week ended July 5, when it averaged 2.557 million b/d. Its second highest level was the week ended September 13, when production.
The trend of a relatively stable Gulf Coast diesel differential looks to continue into the future. Swaps on the Chicago Mercantile Exchange website through 2015 show the differential reaching a low of minus 5.96 in December 2015 and a high of 3.17 cents/gal in May 2014. That is a relatively tight swaps curve for such an extended period of time. During that same time period jet fuel shows more than a 6 cent/gal range.
While the volatility has essentially left the diesel market in the Gulf Coast since April, the heating oil market has been slightly more volatile, going from a standard deviation of 2.2 before the switch in April to 2.47 afterward.
Market sources attribute the increased volatility in heating oil to RINs, as heating oil production increases when the coast of RINs increases because it does not have a RIN obligation and therefore has more of a financial incentive to produce when the cost of RINs are high.
