Why You Might Still Be Overpaying for Gas
Jun 8th 2012 2:19PM
Updated Jun 8th 2012 4:08PM
While gas prices as a national average are finally starting to fall, regional price differences remain substantial. Crude oil prices are still the largest determinant of gasoline prices, but a number of other factors make gas more expensive from state to state. And in some cases, even stations within a few miles of each other sell gas at very different prices. What's behind this rift?
Location, location, location
U.S. oil production has been rising for three straight years. We're pumping out 6.15 million barrels a day, the highest output in more than a decade. So why haven't these gains translated to lower gas prices across the country?
The simple answer is that they've benefited some regions more than others. As with real estate, it boils down to location. Increased production generally tends to benefit those regions and states located closer to refineries, where crude oil is converted into gasoline and other fuels.
In addition, the price refineries pay for crude oil, known as the refiner acquisition cost, varies drastically from region to region. Last year, the average difference in regional refiner acquisition costs was an astonishingly high $23.78 per barrel, up threefold from $7.46 a barrel in 2010. What's the deal?
Brent vs. WTI
It has to do with the price and availability of crude oil. All crudes aren't made the same. As the price difference between the two major crude oil benchmarks, Brent and West Texas Intermediate (WTI), reached record heights, so did the gap in refineries' input costs.
Due to a combination of surging domestic production and a lack of sufficient transportation infrastructure, there's been a huge bottleneck in the nation's main oil storage hub in Cushing, Okla. As a result of the glut, WTI has been trading at a major discount to Brent over the past year or so. The WTI-Brent spread, which refers to the price difference between the two benchmarks, rose persistently in the first three months of this year, doubling from around $10 a barrel at January's end to more than $20 a barrel in March.
The gap in refining margins
This wide variation in input costs has led to huge differences in refineries' profitability. Thanks to easily accessible, cheaper inland crude, midcontinent refiners like HollyFrontier (NYS: HFC) , Delek US Holdings (NYS: DK) , and Western Refining (NYS: WNR) have enjoyed stronger margins for much of the past year and a half.
On the other hand, East Coast refineries, such as those of Sunoco (NYS: SUN) and ConocoPhillips (NYS: COP) , forced to rely on more expensive crude imported from Africa and the North Sea, have seen margins dwindle. Several East Coast refineries were even forced to shut down in recent months. This reduced supply is part of the reason gas prices on the East Coast were relatively higher for much of this year.
And then, of course, there are differences in taxes across states.
According to the Energy Information Administration, taxes made up 11% of the cost of retail gas in April. While federal taxes have stayed constant at 18.4 cents per gallon since 1997, state-level taxes vary drastically.
For example, New York motorists had to shell out 67.4 cents in taxes per gallon, while for Alaska motorists, this number was just 26.4 cents. According to the American Petroleum Institute, New York, California, Hawaii, Connecticut, and Illinois imposed the highest taxes on gas in April.
All these taxes may seem overwhelming, but they're really not so bad in the grand scheme of things. Our friends across the pond have to shell out a whole lot more. For British motorists, duties and value added tax comprised roughly 60% of the price of retail gasoline. Now 11% doesn't seem that bad, does it?
In addition to taxes, environmental programs impact regional price differences. Some programs restrict fuel transportation and storage, while others require the use of more expensive "reformulated" gasoline, which contains additives to reduce carbon monoxide and other polluting emissions. California is a prime example.
California prices also tend to be higher and more volatile than other states' because few sources outside the state produce the unique blend of reformulated gas that is required there. In addition, gas prices in the Golden State have soared in recent months due to temporary refinery closures.
What about local differences?
But all these explanations still don't account for gas price differences between stations that are just a few miles apart. For example, earlier this year in Dallas, a Shell station was selling gas at $4.19 a gallon, while a Costco just a few miles away was selling it at just $3.39. The reason?
First, big-box stores like Costco and Sam's Club can afford to sell gas at a substantial discount because the benefits of drawing in more customers often outweigh the losses associated with undercutting their competitors. For Costco in particular, it's really about getting more people in the door to buy its merchandise. The allure of gas that's just $0.10 cheaper is enough to draw in huge crowds, a strategy that's worked quite well. In fact, some of the bigger stores, like Costco, actually saw more than a 15% increase in customer counts through selling heavily discounted gas.
While these factors are important, the price of crude oil is still the most important determinant of the price of retail gasoline. And as the price of crude fluctuates, so do several oil stocks. But one little-known company has found ways to profit regardless of the price of oil. It's an under-the-radar oil and gas equipment provider that's set to crush the market. You can read about it in The Motley Fool's special free report titled "The Only Energy Stock You'll Ever Need." Find out the name of this company before the market catches on. Click here to access your report - it's totally free.
At the time this article was published Fool contributor Arjun Sreekumar does not own shares of any companies listed above. The Motley Fool owns shares of Western Refining and Costco. Motley Fool newsletter services have recommended buying shares of Costco Wholesale. The Motley Fool has a disclosure policy. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. Try any of our Foolish newsletter services free for 30 days.
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