What determines the price at the pump?
Contrary to popular belief, the President of the United States has very little control over the price of gas at the pump. To underline this point, we presume no one would call President George W. Bush unfriendly to the oil industry. Yet, in February 2001, just after he took office, the price of a gallon of gas was $1.45. By June 2008 that price had risen to $4.05.
From 2000 to 2008, distribution & marketing (D&M) costs constituted 11% of the average retail price at the pump. Refining costs made up 14%, federal and state taxes comprised 22%, and crude oil costs determined the remaining 53%. In the last four years, crude oil as a percentage of the cost of gas at the pump has risen to a whopping 68% of the total. D&M is down to 10%, refining has been reduced to 7%, and federal and state taxes have decline to 14%. It can, therefore, be seen that the rising cost of crude oil is by far the biggest factor in the high price of gasoline.
Why has the price of oil risen so much?
By mid-2008, crude oil and gas prices had reached record levels due to a huge increase in the world’s appetite for energy. In late 2008- early 2009, gas prices had dropped to below $2 a gallon as a result of the collapse in global petroleum demand due to the “Great Recession”. The gradual improvement in world economies in 2010-2011, specifically in China and India, contributed to a rise in the price of crude oil. In addition, political turmoil in the Middle East and North Africa (specifically Syria, Iran, and Libya), the source of about 33% of the world’s oil production, (compared to the United States’ 2%), also contributed to the elevation in oil prices. Moreover, speculators have had a substantial influence on the rise in the price of crude. Some industry watchers have estimated that speculators at the large investment banks trading on the price of oil futures have accounted for a whopping 40% of the recent rise in the price of oil and, in turn, increased the price of a gallon of gas by about $1.00.
Other factors comprising the price of a gallon of gas
State governments were forced to raise their taxes to pay for the public services necessary to cushion the blow from lower income tax revenues due to major layoffs and high unemployment. Only recently have they been able to gradually reverse course by selectively lowering these taxes. Furthermore, the drop in gas prices in late 2008-early 2009 forced some key refiners out of business, thus increasing the demand (and consequently the cost of) refining, which pushed up gasoline prices. This has opened up opportunities for the larger, more-profitable refiners, some of which we will explore below. Other than the increased cost of transportation due to high gas and diesel prices, distribution and marketing costs have remained relatively steady.
Spring has traditionally been a time of higher gas prices. This is because refineries need major maintenance once every four years. This means that 25% of the nation’s refining capacity is temporarily shut down in the first quarter of every year. Refineries need to repair equipment and start making a cleaner blend of gas for the summer driving season. This year they started early due to unusually mild winter temperatures. Furthermore, to comply with the Clean Air Act, refiners are having to make a special blend of gas that doesn’t easily evaporate in the warm summer air. This fuel is $0.10 a gallon more expensive to make because of additional raw materials costs. Too, a 40% decline in the dollar in the last six years has put upward pressure on oil prices as oil is denominated in dollars.
How can investors capitalize on high gas prices?
Much of the investment community expects pump prices to remain at their present lofty levels or even go higher. There are some obvious beneficiaries from high gas prices, namely large oil and gas refiners like Tesoro (TSO), Valero (VLO), Halliburton (HAL), Schlumberger (SLB), and Exxon Mobil (XOM - Free Exxon Mobil Stock Report). Those investors wishing to invest in these large-cap stocks may want to consider a more conservative way of profiting from high gas prices by buying into an energy ETF, such as Energy Select Sector SPDR (XLE). However, a lesser-known company in this sector that we think could do very well is Holly Energy Partners (HEP). That stock can be found in our Small- and Mid-Cap Survey, and currently has a dividend yield of just under 6%. Holly has increased its dividend payments for 29 straight quarters. Its 2,500 miles of pipeline in the southwestern U.S. are not affected by rising oil prices since Holly only provides transportation and terminal services. Holly Frontier Corp. (HFC), a 42%-shareholder, provides a stable source of sales and earnings to HEP since it provides most of the fuel surging through its pipelines. Holly’s geographical location is ideal for serving the southern and southwestern suburban and urban markets. The company is projected to have 12% average annual earnings growth over the next three years, and importantly, it has an option to purchase the UNEV pipeline from HFC, which would expose it to the highly lucrative Las Vegas market.
Piaggio & C Spa is a small-cap stock worth looking into. This very-much-under-the-radar maker of motor scooters, which is based in Italy, has seen its profits escalate from the sales of its scooters, which get up to 100 miles to the gallon. High gas prices, the mild winter, and a still-tough economy, especially in Europe, have encouraged global sales of these eco-friendly modes of transportation, particularly in cities, large towns, and suburban commuting areas.
Wal-Mart (WMT - Free Wal-Mart Stock Report), a surprising choice perhaps, but a core holding for conservative investors. High gas prices mean consumers, particularly in rural areas, will want to limit their driving. Wal-Mart offers a one-stop shop for anyone wanting to buy groceries, home furnishings and hardware, as well as get their car serviced at the same time. The stock’s 3% dividend adds a pleasant sweetener to the recently weaker stock.
Conclusion
To sum up, with high fuel prices also elevating the price of airline tickets, we assume that many potential travelers and vacationers will stay home this year. This means that any relatively less expensive home-based leisure, sporting and/or entertainment activity has investment potential. Finding a way to profit from this trend should be a key investment goal for subscribers.
At the time of this articles writing, the author did not have positions in any of the companies mentioned.
