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Upstream's Ideal Oil Scenario Turns Into Refineries' Nightmare

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The difference between international crude oil prices and that of the United States, commonly known as oil spreads, is declining. This is triggering worries for refinery operators. The current oil market backdrop was partly created by the recent spat in OPEC, as the United Arab Emirates and Saudi Arabia are yet to figure out a deal to satisfy their economic needs, thereby resulting in market volatility. The scheduled meeting between OPEC and non-OPEC members (OPEC+) to be held last Monday was cancelled, triggering market uncertainty and a decrease in Brent Crude price.

Even though the U.S. benchmark, WTI Crude price, has somewhat declined due to the ongoing volatility, its difference from Brent Crude has decreased significantly. Yesterday, the difference declined to $1.23 per barrel at one point, which is strikingly low considering the past few years’ average spread of around $5.50 per barrel. This tightening oil spread condition is putting stress on refining companies, which prefer way higher international prices to earn major profits from their exports. Strong fuel price in the international market and weak oil price in the domestic market is the ideal scenario for companies like Valero Energy Corporation (VLO - Free Report) , Marathon Petroleum Corporation (MPC - Free Report) , HollyFrontier Corporation (HFC - Free Report) and others, which is not the case at the moment.

RBC Capital Markets analyst Michael Tran opines that the lack of U.S. crude inventories, currently at around 31 million barrels deficit from normal points, is putting an upward pressure on domestic crude prices. Moreover, rapid recovery of the U.S. economy is boosting demand, aiding the price levels. While the situation is getting tighter for refinery owners, upstream companies are enjoying high prices for their commodities. Crude prices have surged from last year’s historic crash, boosting the bottom line of companies like ConocoPhillips (COP - Free Report) , Hess Corporation (HES - Free Report) and others. Both these companies currently have a Zacks Rank #1 (Strong Buy). You can see the complete list of today’s Zacks #1 Rank stocks here.

However, the current paradise for oil producers is anything but sustainable. If the spat in OPEC+ continues, a risk of unrestricted production from the member countries coming back to the market looms large on many investors’ minds. This can potentially destroy the momentum gathered by the market in the last few months.  As such, a faster collaboration between the OPEC+ members and a concrete deal can provide some stability in this volatile scenario. This will also protect the growth momentum of the world economy.

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