Gasoline versus Heating Oil- Where is VLO Heading?

Gasoline and heating oil are oil products trading on the CME’s NYMEX division. As gasoline is seasonal, prices tend to increase to annual peaks as the driving season that runs through the spring and summer approaches. Meanwhile, heating oil futures are a proxy for distillates, including jet and diesel fuels. While heating oil implies higher demand during the colder fall and winter months, the distillates are year-round fuels, so prices remain steady and reflect crude oil prices throughout the year without the same seasonality as gasoline. 

Oil products reflect crude oil prices as the energy commodity is processed or cracked into products in petroleum refineries. Crack spreads reflect the economics of processing the oil into gasoline and distillates. Oil refineries do not speculate on the price of crude oil inputs or oil product outputs, but they are at risk for crack spread levels, which are the processing costs. When crack spreads rise, refineries make more money; refineries make less or lose money when they decline. Valero Energy Corp (VLO) is a leading U.S. oil refining company, and its shares have exploded higher from the March 2020 low. 

Gasoline’s seasonal nature- The forward curve

Gasoline’s seasonality is readily evident in the oil product future’s forward curve. 

The forward futures curve out to the end of 2026 shows that gasoline prices tend to command premiums during spring and summer and experience discounts during fall and winter months. 

Heating oil’s stability on the forward curve

While heating oil implies strength during winter, the peak heating season, its position as a proxy for distillate fuels, including jet and diesel fuels, makes it a less seasonal oil product. 

 The heating oil forward curve displays far less seasonal price action. 

 

Crack spreads can be highly volatile

Crack spreads reflect the economics of processing a barrel of crude oil into oil products. Refineries process crude oil in catalytic crackers. At different temperatures, they produce oil products, including gasoline and distillates. While the WTI NYMEX crude oil benchmark and the ICE Brent benchmark are light sweet crude oil, the WTI crude is slightly lighter and sweeter with a lower sulfur content, making it the preferred petroleum for gasoline processing. Brent crude oil’s composition makes it ideal for processing into the distillates. Refining companies do not speculate on the price of crude oil, the input, or oil products, the output. Instead, they make or lose money depending on the price levels of refining or crack spreads. Higher crack spreads yield more earnings, while lower crack spreads reduce earnings or cause losses. 

Gasoline and distillate crack spreads are real-time indicators from two perspectives. First, they indicate the overall demand for crude oil, which is an input in the refining process. Second, they indicate refining companies’ profitability levels and their stock prices. 

Oil and oil products are on the November U.S. ballot

Crude oil and oil products continue to fuel the United States and the world. Most vehicles require oil-based fuels. The future of crude oil and its product prices could depend on the early November 2024 U.S. Presidential election as it will determine the policy direction. 

The incumbent Democrats favor addressing climate change by limiting fossil fuels and encouraging alternative and renewable fuels. Europe has been an active partner in green energy initiatives. Meanwhile, the world’s most populous countries, China and India, have not signed on to these policies. The U.S. policies have increased OPEC+’s pricing power over the past few years, with oil production policy a function of decisions in Riyadh, Saudi Arabia, and Moscow. A win by Democrats will continue the current U.S. energy policy path, which could support higher oil and oil product prices. 

The former President and Republicans favor a “drill-baby-drill” and “frack-baby-frack” approach to hydrocarbons to achieve energy independence from OPEC+ and increase U.S. revenues through petroleum refined product exports. Another term for the former President and Republican control of both Congressional Houses could mean a significant increase in U.S. traditional energy production, leading to lower prices. 

VLO shares depend on crack spread levels 

While refining company earnings do not depend on crude oil or oil product prices, the margin for processing crude oil into products is critical for profitability. Valero Energy Corporation’s (VLO) company profile states:

At $131.03 per share, VLO had an over $44.5 billion market cap. VLO trades an average of over 2.545 million shares daily and pays shareholders a $4.23 or 3.23% dividend. By market cap, Valero is the fortieth-leading worldwide publicly traded oil and gas company and the fifth-leading petroleum refining company. 

VLO shares experiences a parabolic rally from the 2020 low to the 2024 high. 

 The five-year chart highlights the 496% rally from the March 2020 pandemic-inspired $31 low to the April 2024 $184.79 high. While the shares have trended lower since the April 2024 peak, the bullish trend over the past five years remains intact. Meanwhile, VLO tends to display seasonality, with the shares reaching highs during spring and summer and lows during fall and winter, reflecting gasoline consumption trends. 

Technical support for VLO stands at the $120 and $100 per share levels. As we head into the fall and winter, VLO shares could continue to experience weakness. While the November election results could impact VLO shares because of future energy and tax policies, seasonality could create buying opportunities by the end of 2024 and early 2025. 

Gasoline and distillates remain the world’s primary energy commodities. Addressing climate change could alter these dynamics, but until China and India adopt coordinated policies, petroleum will remain the leading energy commodity. The bottom line is that VLO, other refining companies, and the entire oil sector could experience significant volatility over the coming weeks and months. The escalating conflict in the Middle East only increases the odds of elevated price variance. A significant decline in VLO shares could create a buying opportunity for 2025 over the coming months.