Total U.S. demand for oil products is up 2.7% year to date, boosted in part by the surge in cold weather in February. But since we are far from the only country importing gasoline and other key refined products, we don't have a lot of say in what those prices are.
Gasoline, like crude oil, is auctioned worldwide to the highest bidder, and with the dollar weak and overseas economic growth strong because of our fantastic appetite for iPods made in China and T-shirts made in Costa Rica, we have to pay up to keep our supply coming in. And that's all there is to it.
With U.S. refinery capacity now at ridiculously low levels due in part to lack of investment in new plants amid harsh environmental rules, any little change in the supply chain has an amazingly powerful effect.
If there's a blip in supply from Nigeria, where violence is raging, or if there's a refinery accident that causes a kink in capacity, the amount of gasoline and diesel available for American consumers shrinks dramatically. Price then becomes the great allocator of this scarce resource. Right now, U.S. gasoline inventory is at a record low, with just 20 days' supply available.
If there's one thing you can pin on the oil companies, it's that during their long trek in the wilderness in the 1980s and 1990s, when prices fell dramatically, they failed to maintain their refineries adequately. This shortfall in investment led in part to the tragic 2005 explosion at the Texas City refinery of BP, which killed 15 people, as well as the recent fire at the McKee refinery operated by Valero Energy.
Combine the poor maintenance with a stunning lack of qualified refinery engineers and some bad luck, and you've got the current mess, in which several of the nation's biggest refineries are running at half-speed. As much as 500,000 barrels per day of gasoline capacity is unavailable.
'Methadone' in the Tank
The government, meanwhile, has not exactly covered itself in glory. For a variety of good reasons, for example, new federal rules have made a type of fuel used by farmers called ultra-low-sulfur diesel difficult to transport nationwide in conventional pipelines. So farmers have had to turn to more-expensive grades of diesel that are refined and sold locally, while the cheaper diesel has been sent overseas, where transportation rules are less stringent.
What about ethanol, the supposed miracle fuel made from corn that President Bush has pushed as an alternative? It's kind of a bad joke. As a Deutsche Bank analyst pointed out recently, ethanol is the energy equivalent of "methadone" -- a palliative, not a cure. At present, generating and transporting ethanol require huge tax subsidies, and the net savings of foreign energy dependence are negligible, since corn, its feedstock, is farmed with oil-powered tractors and nourished with gas-based fertilizers and oil-based pesticides.
Moreover, Deutsche notes that ethanol is 30% less fuel-efficient than gasoline, which means that a car will travel only about two-thirds the distance on a gallon of ethanol than on a gallon of gasoline.
In a situation when solutions are scant, it is easy to just fall back on the easy ploy and accuse service-station operators of price gouging. But that really misses the point. The independent station owner is almost as much of a victim as the consumer, as he faces escalating wholesale costs, rising credit card fees and the enmity of his customers.
Your Friend, Big Oil
Rather than complaining, investors are better off figuring out how to make a buck off this turn of events. One of the best opportunities out there right now is industry heavyweight ExxonMobil, which is paradoxically both the largest public company in America and one of the least appreciated.
ExxonMobil is involved with every facet of the business, from oil and gas exploration to transportation, storage, refining and marketing, as well as power generation and coal mining. Its predecessor companies have been around since the days of John D. Rockefeller and his infamous Standard Oil Trust in the early 1900s, so it has eluded no end of witch hunts.
It has 22.8 billion barrels of oil equivalent in reserves, with 51.2 billion barrels in additional potential, which it uses as feedstock at refineries that pump out 6.4 million barrels of gasoline and fuel oil per day.
Although Exxon is exceptionally well-run, with the highest return on invested capital in the large-cap energy universe, it carries a valuation that is significantly discounted because the market appears to think that crude oil prices are heading massively lower any day now -- an outcome that would slash the company's earnings.
Thanks to more than a half billion dollars of investment in technology and systems design over the past several years, Exxon has been able to turn all that production into more profits than any company has been able to achieve in the history of the planet. It rewarded shareholders with a 39% total return last year, and the stock is up an additional 13% this year. And I believe there is still much more to come, as the company still earns a price-to-earnings multiple of only 12, while the S&P 500's multiple is 15.
In other words, the most profitable company on the planet, which has $5.33 a share in cash and is growing in excess of 10% a year, is getting a commoner's valuation. If investors were merely to decide to give Exxon the average valuation of the market, and it earns just the consensus of $6.75 per share next year (which I think is way too low), it would be trading at $101, or 20% higher than the current price.
Exxon is not trading at $101 now, because investors apparently believe that oil prices and refining margins have peaked and that its earnings will begin to backslide next year. I believe that is wrong, and I believe you should be loading up on Exxon on dips both for your retirement accounts and to offset your extra costs at the pump.