Energy Investor Monthly – January/February 2025

INSIGHTS OF THE MONTH

Turning Crude Oil Into Energy “Gold”: The Basics of the Refining Process

Since before recorded history, nearly every society has used crude oil or one of its many petroleum derivatives. Meaning “rock-oil” in Latin, the term petroleum is often used interchangeably to describe several hydrocarbon derivatives, including crude oil. However, in technical terms, crude oil refers only to the raw, unprocessed oil produced by energy exploration and production (E&P) activity, primarily by drilling conventional oil and gas wells.

Many of us may not realize that crude oil, in its raw, unprocessed form, is actually a complex mixture of several hydrocarbons. From fuel for cars, trucks, and planes to home heating oil and base materials for petrochemicals, even the surface of our roads, a single barrel of oil contains an almost limitless number of products that our modern society relies on each day. But have youever wondered how we get all these from a single barrel of “rock oil?” The key lies in a complex series of industrial processes known as refining.

First, a short history lesson on why oil is measured in barrels. Back in 1859, when oil was first discovered in the U.S., a small group of independent oil producers decided that the best way to transport their oil was in 42-gallon oak barrels, which at the time were widely available to transport wine, meat, and other consumer goods. Fast forward to today, and the universally accepted standard 42-gallon barrel of crude oil generally yields about 45 gallons of refined product. This is why refining is considered an additive process. Known in the industry as “processing gain,” as seen in the chart below, many of the refined products – gasoline, diesel, kerosene, etc. – are less dense and, hence, have a greater total volume than the crude oil from which it was produced

Refining is as easy as 3:2:1

Although multiple products can be derived from a single barrel of crude oil, a refiner can easily calculate its profitabilityby applying a simple formula known as the 3:2:1 crack spread. The word “crack” is an industry term for breaking apart or, quite literally, cracking crude oil into its lighter and heavier component products.

As a measure of a refiner’s short-term profit margin, the crack spread is often used to calculate the difference between a refinery’s input cost (crude oil) and the final selling price of its finished products, such as gasoline, diesel, and other petroleum-based products. The 3:2:1 spread also roughly approximates the production yield of a typical U.S. refinery, implying that for every three barrels of crude oil processed, a refinery will typically produce about two barrels of gasoline and one barrel of distillate fuels.

Unfortunately, not all crude is created equal

Officially, there are over 160 types of crude oil – ranging from light and sweet to heavy and sour. However, the two most important properties that determine an oil’s value are its density, as measured by its American Petroleum Institute (API) specific gravity, and sulfur content, measured in its percentage per unit mass. These physical characteristics also determine how a refinery must process it. Less dense (lighter, sweet) crude oils with higher API gravity generally have more light hydrocarbons, making them easier to process. On the other hand, heavy crude oils, which are often less expensive, require more complex and expensive processing to produce the same high-value products. Some lower-quality crude oils also contain high sulfur “sour” content, an undesirable characteristic in processing and final product quality.

The 3 stages of refining

Exactly how crude oil is separated into more valuable hydrocarbon products depends on a refinery’s complexity. In more complex refineries, some of the initial production is often recombined into new and even higher-value petroleum products. Because of this, most refineries are designed to accept a specific type of crude oil in order to maximize their “yield” and profitability. However, regardless of the oil’s specific gravity or sulfur content, all refineries perform the same three basic steps: Separation, Conversion, and Treatment.

Separation is typically performed via a process known as distillation. As shown in the diagram below, distillation involves heating crude oil in an enclosed chamber and then separating it into other hydrocarbons based on their different weights and boiling points. The lightest elements – those with the lowest weights and boiling points – like butane and gasoline, rise to the top of the distillation unit. Heavier products, including kerosene, jet fuel, diesel, and home heating oil, are separated at the mid-range of the distillation process. The heaviest components and ones with the highest boiling points, like heavy gas and residual fuel oil,sink to the bottom. Once separated, the individual products, known as fractions, are moved on to the next phase of the refining process: Conversion.

The most widely used Conversion method is also called “cracking” because it uses heat, pressure, catalysts, and sometimes added hydrogen to break apart the heavy hydrocarbon molecules into lighter ones produced during the Separation process. As shown in the diagram below, a cracking unit can consist of one or more tall, thick-walled, rocket-shaped reactors combined with a network of furnaces, heat exchangers, reformers, and other vessels. However, not all conversion involves breaking heavier fractions into lighter ones. Some refineries have alkylation units, which combine the hydrocarbon propylene or butylene with isobutane via an acid catalyst. This produces a high-octane mixture that can later be added to gasoline or jet fuels. Reforming is the final stage of the conversion process, which is often used to convert naphtha into a high-octane fuel additive.

After Separation and Conversion, the various fractions are either sent directly to storage facilities or pipelines or moved to the final stage of the refinery process, known as Treatment. Not all refined products go through this final step, but the most important product, gasoline, does. During Treatment, several product streams are blended together to produce various grades of gasoline and other refined products. Once this last stage is completed, the final products are stored in temporary storage facilities, known as tank farms, before being moved via pipelines, trucks, ships, and even trains to the end consumer.

Refining’s Critical Role

We hope we have explained how refineries play a critical role in today’s U.S. economy. By transforming crude oil into many ofthe essential products we rely on in our daily lives, refineries are the crucial link that converts crude oil and our other natural resources into the energy “gold” that allows us to enjoy the many benefits of our modern lifestyle. Without their important contribution, many of humanity’s advancements and technological achievements would not have been possible – even as our society shifts toward using more renewables. However, regardless of America’s energy future, refineries and their domestic energy midstream partners will continue supplying the energy and other petroleum products necessary to support our growing economy even if it is a more sustainable one.

Sources:

• https://aoghs.org/transportation/history-of-the-42-gallon-oil-barrel/
• https://www.eia.gov/todayinenergy/includes/crackspread_explain.php
• https://bkvenergy.com/learning-center/types-of-crude-oil/
• https://www.eia.gov/energyexplained/oil-and-petroleum-products/refining-crude-oil-the-refining-process.php
• https://www.cmegroup.com/education/courses/introduction-to-refined-products/a-look-into-the-refining-process.html

ENERGY MARKETS BY THE NUMBERS

U.S. Total Crude Oil Production and U.S. Crude Rotary Rig Count (as of February 7, 2025):

1. West Texas Intermediary (WTI) oil price was $71.04 per barrel (-6.2% m/m)
2. U.S. oil production was 13.5mm bbl/d (+0.1% m/m)
3. U.S. oil rig count was 480 (Flat m/m)

The U.S. Commercial Crude Oil Inventories (excluding those in the Strategic Petroleum Reserve) and Inventory Changes (As of February 7, 2025):

• Inventory increased by 15.2 million barrels month over month to 427.9 million barrels (5.1% below the 5 year average).
• Total crude stockpiles, including the Strategic Petroleum Reserve (“SPR”), increased by 16.2 million barrels month over month to 823.2 million barrels.

U.S. Imports and Exports (as of February 7, 2025):

1. U.S. crude oil 4-week average imports were 6.6 mm bbl/d, up 1.8% month over month.
2. U.S. crude oil 4-week average exports were 4.1 mm bbl/d, up 11.6% month over month.

U.S. Refinery Inputs and Utilization Rates (as of February 7, 2025):

1. U.S. crude oil refinery inputs averaged 15.4 mm bbl/d for the week February 7, 2025. Four-week inputs averaged 15.4million bbl/d,3.3% higher than the same time a year ago.
2. Refinery Utilization Rate was 85.0%, down from 91.7% for the previous month. This is higherthan the same period last year, which was an80.6% utilization rate.