NEW YORK, April 3 (Reuters) - The U.S. East Coast gasoline market looks set to begin the summer driving season with fewer barrels in storage than last year, as refiners have been profiting by producing winter grade gasoline longer than usual, trading sources said.
Traders said the additional production of winter grade came because the price of butane BUT-USG, a key blending component for winter gasoline, has nearly halved in two months. That spurred traders and refiners to make more of the higher-volatility fuel that cannot be used in the summer.
U.S. gasoline futures crack spreads RBc1-CLc1, an indication of refining profits, remain at seven-year seasonal lows as inventories hover above the five-year average. Making the cheaper grade of fuel is one way to offset that.
However, there is a limited two-month window to make the trade work, so those who can get the blending components at the right prices will continue to blend winter grade, particularly as favorable economics to store the barrels fade, traders said.
Summer gasoline is harder and more expensive to produce than winter grade, which is why pump prices tend to rise with the heat. In 2016, a glut of inventory hammered refiners’ margins and they started blending winter grade gasoline earlier than usual.
In the winter, when evaporation is less of a concern, gasoline is made with a higher Reid Vapor Pressure (RVP), a common measure of the volatility of gasoline, by blending butane into it.
Butane prices typically tend to fall in late February and March when blending demand tapers but this year rose to a two-year high early in February before dropping.
“Certainly last year for local refiners the economics were there to make summer grade early and that created an artificial surplus because summer grade gasoline was going into tanks before there was any consumption,” said one East Coast trader who currently has sales lined up for the winter blend.
“This year, there will certainly be less (summer grade) to start the summer season.”
Typically the switch to summer grade starts between late-March and mid-April as refiners come out of maintenance but if demand persists, they are expected to make the winter fuel for longer.
The U.S. Environmental Protection Agency (EPA) mandates that summer-grade gasoline and reformulated gasoline be used in certain regions staring May 1 for refiners and terminals, and June 1 for gasoline retailers.
The market structure is also supportive of blending winter grade, as gasoline futures are in backwardation, when prompt prices are higher than deferred prices, discouraging making and storing summer barrels.
The front-month contract’s premium to the second month RBc1-RBc2 rose to as much as 0.77 cents per gallon on Monday, flipping from a discount just last week.
U.S. gasoline prices are about 16 percent higher than a year ago and are inching closer to a seasonal two-year high as inventories have begun drawing consistently.
Gasoline inventories in the East Coast region fell to 65.6 million barrels as of March 24, their lowest since late December, but are still at the highest seasonal level in at least seven years, according to the Energy Information Administration (EIA).
The EIA does not provide a break up of summer and winter blends in storage but traders believe most of the barrels are winter grade and will draw down over the next few weeks.
The East Coast accounts for nearly a third of the country’s total gasoline demand and includes New York Harbor, delivery point for the New York Mercantile Exchange contract.
However, the move to keep producing winter barrels could backfire if demand peters out and refiners could get stuck with gasoline that then would not be legal for sale until September.
“There’s a pretty limited window to do this ... it will be opportunistic,” said Robert Campbell, head of oil products markets at consultancy Energy Aspects.
“It does make summer look a little better (for refiners).” (Reporting by Devika Krishna Kumar in New York; Editing by Marguerita Choy)