Drivers are smarting from the recent spike in gasoline prices, just in time for their summer road trip. According to AAA, the average price for a gallon of regular topped $3.63 Tuesday, up more than 15 cents per gallon from a week ago. And the odds are that more pain is in store, at least until the July driving season ends and motorists return home to psych up for back to school.
The run-up in gas prices comes despite a steady decline in U.S. consumption since 2007 and intensifying concern over China's near-term economic vitality. So what's behind the recent pain at the pump?
First of all, oil prices. According to the U.S. Energy Information Agency, 67 percent of the retail price of gasoline is directly attributable to the cost of crude oil. And crude oil has been on a tear in the past few months, thanks primarily to the unrest in Egypt. Not that Egypt is a significant contributor to world oil supplies (less than 1 percent); but the threat of instability in the region increases the risk of disruption of crude shipments through the Suez Canal and the Straits of Hormuz in the Persian Gulf.
Although major shipping lanes remain open, one can conjure a scenario of increasing geopolitical chaos in which tankers cannot transit choke points and world supplies are constricted. The mere possibility of such an event causes traders to factor higher prices into contracts for future delivery. Benchmark Brent crude oil has surged 13 percent higher over the past two months, dragging gasoline prices along for the ride.
Refining, marketing and distribution costs make up another 22 percent of the price at the pump. Over the past 30 years, U.S. refining capacity has not kept pace with gasoline demand and practically no new refineries have been built. Therefore, despite the recent moderation in demand, little spare capacity exists to take up the slack when production bottlenecks arise. Several major refineries in the Gulf cCoast and the Midwest have experienced outages in recent weeks, constraining supplies of refined products like gas and diesel fuel and helping to push the price higher.
Meanwhile, drivers are also heading into the highest seasonal demand period of the year as families motor off down the highway to Grandma's house or the Grand Canyon.
Industry analysts expect the picture to get worse before it gets better. The ultimate resolution of the Egyptian coup is far from certain, and Libyan protests have impeded shipments of crude from that important producer. Given drawdowns in gasoline inventories and sporadic production outages at major refiners, gas prices may rise another 5-10 cents in the next few weeks before drivers get any relief. Add to these factors the impending 2013 Gulf hurricane season that often requires refiners to shut down and ride out major storms, further impeding production and reducing stockpiles, and the stage is set for a couple more bucks in the tank each time you fill up, at least for now.
Christopher A. Hopkins CFA, is a vice president at Barnett & Co.