High gas prices due to ‘massive disconnect’ between refining, crude oil supply: Energy analyst

CIBC Private Wealth Senior Energy Trader Rebecca Babin joins Yahoo Finance Live to discuss rising oil prices, demand destruction, volatility, and the outlook for this summer.

Video transcript

- Oil prices are on the rise again this morning. And we had gasoline prices rising above $4 a gallon on the retail level in all 50 states. Cost spikes, weak retail earnings, all of this raising red flags about a lack of demand from consumers. Joining us now to discuss CIBC Private Wealth US Senior Energy Trader, Rebecca Babin. And Rebecca, it's always great to see you.

And boy is this a good week to talk to you about what has been going on. As we see these gasoline prices go up here, I've got my eye on that summer driving season and what's going to be happening, especially as we have gasoline inventories relatively low in the US and those refiners are pumping it out as much as they can. What is the recipe here? What are we going to see this summer?

REBECCA BABIN: Well thank you so much for having me, Julie. So I think we all have to be pretty concerned about what's going to happen over summer driving season. And I think you hit on the most important part of this story. It's not necessarily that there's a lack of crude oil flowing through the system right now.

We've released barrels from the SPR. And in fact crude oil has been massively lagging the move higher in products like gasoline and diesel jet. And it comes down to this refining capacity that we have. We have cut our refining capacity in the US by about three million barrels a day. China's cut refining capacity. And Russia, who actually did export a fair amount of products is now somewhat constrained in the market.

So we have this massive disconnect between having a lot of crude and not having enough product because we don't have the refining capacity. I equate it to showing up to a birthday party with a wheelbarrow full of sugar when everybody wants to eat a cake. You got to go and make the cake and make that happen to make that party really go off. And we're heading into that scenario for summer driving season.

Refiners have been in maintenance. So they've been operating at around 90%. There is going to be additional refining utilization coming on. And I think we'll see them push to 92%, 93%, maybe 94%. And that'll alleviate some of this. But not nearly enough for what we're going to see in the summer if the demand is there and the consumer holds up.

Again, you're touching on a really sensitive topic is, have the prices hit a point where the consumer is pulling back? We're seeing it in retail. Does it happen in things like gasoline? Probably not quite yet. And we're probably look at higher prices for the summer.

- So Rebecca in your analogy, why haven't we put more ovens online? I don't know. So you said we're down three-- we've cut three million barrels of capacity. Why did that happen?

REBECCA BABIN: So that happened for a number of reasons. And it comes back to a very big picture story, which is, we want to transition away from fossil fuels. It's not a clean business. Refining is dirty. We've tried to move away from that as we transition into cleaner technology and cleaner energy sources.

However, we didn't anticipate kind of these supply disruptions that are happening globally. China cut its refining capacity as well. Everyone's trying to achieve these goals of being a less dirty economic player. And that's what drove some of these decisions.

Secondly, there was a concern of gas and oil companies to invest with tighter regulations and a move away from fossil fuels. So they haven't invested in keeping those refineries up at the highest standard so they can produce as much. So it's a very big picture topic.

And unfortunately, it just can't be resolved through any of these political measures that we're seeing come through, whether it's the SPR or whether it's a tax holiday. None of those things are really going to alleviate that that capacity is not there right now.

- Higher gas, higher diesel prices, that's still going to get passed through to the consumer as we do know that retailers who are even getting some of those products shipped. That's getting factored into the expenses as well that they're incurring. And for some of that that's getting filtered through to the end consumer. At what point do you think that will actually initiate some demand destruction even?

REBECCA BABIN: This is the hot topic right now I think in the market. Because it's become really evident that the only thing that's going to alleviate these price rises is demand destruction. And everyone's trying to really pin down where that is. There's a lot of talk of around $5 a gallon at the pump as a place where you start to see the consumer shy away.

I think the indications you saw at retail this week are actually a little bit more telling. It might be a little sooner than that. They're starting to change their behaviors. Now does that mean you're not going to drive to work? No.

But does that mean you might cut back on taking an extra vacation or taking an extra trip? You may do that not simply because gasoline in a vacuum is expensive, but every single thing you're going to do on that vacation just got more expensive by 20%, eating, traveling, staying. So I think actually you might see it happen a little bit before that $5 a gallon level, just because the pressure is coming from everywhere on the consumer.

So Rebecca, put it all together for us. What's your best estimate for peak price at the pump and when we get there.

REBECCA BABIN: Oh Lord.

- I don't want to put you on the spot or anything.

REBECCA BABIN: As a national average, I'd say probably I think we hit peak middle of the summer here around $4.75 and I think that's when we start to see a little-- I'm not giving myself a big buffer here, $5. And I think where demand destruction really occurs. So $4.75 I'm taking the under on that $5 a gallon.

And that's kind of where I see it settling out. And I think it's going to be a really interesting summer as we look at through commodities. And I think there's going to be a tremendous amount of volatility. So we may see spikes above that and then mean revert below it. Anything's fair game for the summer, Julie.

- All right. Got some deep breaths over here.

- When we say interesting summer, that feels like a euphemism for me. Interesting is not necessarily a good thing for people who are trying to drive unfortunately.

- Exactly. Rebecca Babin, thanks so much for joining us here today, Senior Energy Trader over at CIBC Private Wealth US.