![]() ![]() Introduction to Crack Spreads - CME Group. What is a Crack Spread? In the petroleum industry, refinery executives are most concerned about hedging the difference between their input costs and output prices. Refiners’ profits are tied directly to the spread, or difference, between the price of crude oil and the prices of refined products — gasoline and distillates (diesel and jet fuel). This spread is referred to as a crack spread. It is referenced as a crack spread due to the refining process that “cracks” crude oil into its major refined products. A petroleum refiner, like most manufacturers, is caught between two markets: the raw materials he needs to purchase and the finished products he offers for sale. The price of crude oil and its principal refined products are often independently subject to variables of supply, demand, production economics, environmental regulations and other factors. As such, refiners and non- integrated marketers can be at enormous risk when the price of crude oil rises while the prices of the refined products remain stable, or even decline. Such a situation can severely narrow the crack spread, which represents the profit margin a refiner realizes when he procures crude oil while simultaneously selling the refined products into a competitive market. Because refiners are on both sides of the market at once, their exposure to market risk can be greater than that incurred by companies who simply sell crude oil, or sell products to the wholesale and retail markets. In addition to covering the operational and fixed costs of operating the refinery, refiners desire to achieve a rate of return on invested assets. Because refiners can reliably predict their costs, other than crude oil, an uncertain crack spread can considerably cloud understanding of their true financial exposure. Further, the investor community may use crack spread trades as a hedge against a refining company’s equity value. Other professional traders may consider using crack spreads as a directional trade as part of their energy portfolio, with the added benefit of its low margins (the crack spread trade receives a substantial spread credit for margining purposes). Together with other indicators, such as crude oil inventories and refinery utilization rates, shifts in crack spreads or refining margins can help investors get a better sense of where some companies— and the oil market may be headed in the near term. ![]() 1. PURPOSE. The purpose of this publication is to provide standards for marking and lighting of objects that present a hazard to the safe operation of aircraft. 2.3.1. Secret Key Cryptography. Secret key cryptography methods employ a single key for both encryption and decryption. As shown in Figure 1A, the sender uses the key. 1. Introduction 2. Failure causes 2.1 Shaft 2.1.1 Fatigue crack 2.1.2 Plastic deformation 2.1.3 Defect shaft 2.2 Joint 2.2.1 Loose connection. Hedging the Crack Spread. There are several ways to manage the price risk associated with operating a refinery. Because a refinery’s output varies according to the configuration of the plant, its crude slate, and its need to serve the seasonal product demands of the market, there are various types of crack spreads to help refiners hedge various ratios of crude and refined products. Each refining company must assess its particular position and develop a crack spread futures market strategy compatible with its specific cash market operation. Simple 1: 1 Crack Spread. The most common type of crack spread is the simple 1: 1 crack spread, which represents the refinery profit margin between the refined products (gasoline or diesel) and crude oil. The crack spread — the theoretical refining margin — is executed by selling the refined products futures (i. The crack spread is quoted in dollars per barrel; since crude oil is quoted in dollars per barrel and the refined products are quoted in cents per gallon, diesel and gasoline prices must be converted to dollars per barrel by multiplying the centsper- gallon price by 4. If the refined product value is higher than the price of the crude oil, the cracking margin is positive. Conversely, if the refined product value is less than that of crude oil, then the gross cracking margin is negative. When refiners look to hedge their crack spread risk, they typically are naturally long the crack spread as they continuously buy crude oil and sell refined products. If refiners expect crude oil prices to hold steady, or rise somewhat, while products prices fall (a declining crack spread), the refiners would “sell” the crack; that is, they would sell gasoline or diesel (ULSD) futures and buy crude oil futures. Whether a hedger is “selling” the crack or “buying” the crack reflects what is done on the product side of the spread, traditionally, the premium side of the spread. At times, however, refiners do the opposite: they buy refined products and sell crude oil, and thus find “buying” a crack spread a useful strategy. The purchase of a crack spread is the opposite of the crack spread hedge or “selling” the crack spread. It entails selling crude oil futures and buying refined products futures. When refiners are forced to shut down for repairs or seasonal turnaround, they often have to enter the crude oil and refined product markets to honor existing purchase and supply contracts. Unable to produce enough products to meet term supply obligations, the refiner must buy products at spot prices for resale to his term customers. Furthermore, lacking adequate storage space for incoming supplies of crude oil, the refiner must sell the excess crude oil on the spot market. If the refiner’s supply and sales commitments are substantial and if it is forced to make an unplanned entry into the spot market, it is possible that prices might move against it. To protect itself from increasing product prices and decreasing crude oil prices, the refinery uses a short hedge against crude oil and a long hedge against refined products, which is the same as “purchasing” the crack spread. Diversified 3: 2: 1 and 5: 3: 2 Crack Spreads. There are more complex hedging strategies for crack spreads that are designed to replicate a refiner’s yield of refined products. In a typical refinery, gasoline output is approximately double that of distillate fuel oil (the cut of the barrel that contains diesel and jet fuel). This refining ratio has prompted many market participants to concentrate on 3: 2: 1 crack spreads — three crude oil futures contracts versus two gasoline futures contracts and one ULSD futures contract. In addition, a refiner running crude oil with a lower yield of gasoline relative to distillate might be interested in trading other crack spread combinations, such as a 5: 3: 2 crack spread. This crack spread ratio is executed by selling the five refined products futures (i. RBOB gasoline futures and two ULSD futures) and buying five crude oil futures contracts, thereby locking in the 5: 3: 2 differential that more closely replicates the refiner’s cracking margins. ULSD diesel futures contract. Further, professional traders may consider using diversified crack spreads as a directional trade as part of their overall portfolio. Also, the hedge fund community may use a diversified 3: 2: 1 or 5: 3: 2 crack spread trade as a hedge against a refining company’s equity value. Factors Affecting Crack Spread Value#Issue. Typically Affects. Crack Spread Effect. Geopolitical issues: Politics, geography, demography, economics and foreign policy. Crude oil supply. Crack weakens initially — higher crude oil prices relative to refined products. Crack strengthens later, as refineries respond to tighter crude oil supply and reduce product outputs. Winter seasonality. Winter seasonality. Crack strength. 3Slower economic growth. Slower economic growth. Crack weakness. 4Strong sustained product demand. Strong sustained product demand. Crack strength. 5Environmental regulation on tighter product specifications. Tightening of product supply. Crack strength. 6Expiration of trading month. Expiration of trading month. Cracks values can vary due to closing of positions. Tax increase after certain date. Tax increase after certain date. Crack weakens in front of tax deadline and strengthens post deadline. Summer seasonality. Summer seasonality. Crack strength. 9Refinery maintenance. Refinery maintenance. Crack strength. 10. Currency weakness. Crude oil strength. Crack weakness. Cracks are affected by more forces than ever before: As investors shift funds into crude oil due to weakness in currencies, crude oil prices can quickly increase causing a decrease in crack spreads. The U. S. Renewable Fuels Standard’s blending requirements, which displace refinery hydrocarbon products with renewable products, impact crack spreads by weakening them by introducing new supply sources for demand needs. Issues to Consider When Implementing Trades. Trade purpose? Trader must understand and be disciplined to trade purpose. Browse journals by subject. Accept. This website uses cookies to ensure you get the best experience on our website.
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