Theory: Conversion  Capacity Constraints Drove Differentials
•Assumption
•Light product demand increasing
•Refinery conversion capacity running at maximum utilization
•Increased crude oil supply is heavy sour
•Results
•Demand for light crude oil increases
•Added heavy crude oil run without benefit of conversion
•Residual fuel oil yield increases
•Over-supply of residual fuel oil
SIf the assumptions on this slide are correct, then what would result?

SIf refinery conversion capacity were in fact running at maximum utilization,  then the only way to increase light product production would be to increase refinery crude oil input.

SIf the conversion capacity had also been at maximum throughput, then residual fuel oil yield would rise as refinery throughput increased.  If  the added input were light crude oil, then the residual fuel yield increase would be small, but if the feed increase were mostly heavy high-bottoms-content crude oils,  then the residual fuel yield increase would be much larger.

SThese assumptions might mean that some refiners would prefer more light crude oil because they could produce more light products per barrel of input and avoid large increases in residual fuel oil production. But how can we tell if refiners “only want more light barrels” or even mostly want light crude oil?  A higher price for light sweet crude oil relative to heavy sour crude oil does not mean that demand for light crude oil has increased or that refiners only want light sweet crude oil.  It does mean that the relative value of the heavy crude oil has diminished because of its higher yields of lower-valued products.

S Keep in mind that, under these assumptions, refiners with or without bottoms conversion capacity are in the same situation.  They can increase light products production by  running more barrels of input, but neither can avoid additional residual fuel oil production.

S To analyze the validity of the assumptions we need to look at refinery input and outputs in 2004, and particularly focus on residual fuel oil yields and production levels.