$4 Gas? Fat Chance

Despite tight supply and steady demand, it would take a disaster along the lines of Hurricane Katrina to push pump prices that high

by Moira Herbst

With gasoline prices surging in 2007, U.S. motorists have cast a nervous eye toward gas station signs. Headlines about the specter of $4-a-gallon gasoline bedevil commuters and vacation planners, and fears of an inflationary ripple effect linger. Many have worried that pump prices could surpass the record average of $3.06 a gallon in September, 2005, right after Hurricanes Rita and Katrina decimated the Gulf Coast.

Gasoline is now at a national average of $2.87 per gallon, about 33% higher than 11 weeks ago. On Apr. 25 the picture got no prettier: Crude oil jumped $1.26, to $65.84 a barrel, on government data showing a steep, 2.8-million-barrel drop in gasoline supplies.

The main culprit in the price surge is lack of supply. Refinery utilization—which measures how much capacity gasoline refineries are using—fell to 87.8% from 90.4% the week before. Refiners typically report production upswings in the spring as they finish routine maintenance before the summer driving season. But this year fires and power outages have marred production at many refineries. "There are unusual problems in the refinery business; everything that could have gone wrong went wrong," says Fadel Gheit, senior energy analyst for Oppenheimer & Co. in New York. "From BP to Valero to Exxon to ConocoPhillips, every company had an operating problem or shutdown this quarter."

Ramping Up Production

Still, American drivers need not fear the worst, analysts say. That's because, despite tight supply and steady demand, gasoline prices will likely peak soon, meaning relief at the pump isn't far off. Analysts say that troubled refineries in Texas, California, and Indiana will start ramping up production, and there should be enough supply to quench the thirst of America's automobiles as summer driving starts.

"Everyone likes to hype $4 gasoline because it's sexy," says Tom Kloza, chief oil analyst for the Oil Price Information Service, an energy consulting firm. "The reality is that we're nearing the highs of the year, and within 30 days there will be more gasoline on the market. You might see $4 in tony places such as Beacon Hill or Beverly Hills, where they wear the price as a badge of honor."

The gasoline squeeze is coming at a time when major energy players are reporting lower profits, coming off 2006 comparisons that featured record incomes built atop sizzling oil and natural gas prices. The integrated oil companies now also face higher drilling costs and restricted access to countries such as Venezuela and Russia. On Apr. 24, BP (BP) reported a 17% drop in profits amid lower oil prices and rising costs, while Occidental Petroleum (OXY) reported a 1.5% drop.

Only in a Calamity

But as gasoline prices rise and refining margins fatten, some of the exploration and production strain can be offset by gains in refining and marketing. In other words, higher gas prices are helping Big Oil through tougher times. ConocoPhillips (COP), which has the U.S.' second-largest petroleum refining capacity, reported a 7.7% rise in net income on Apr. 25. ExxonMobil (XOM), which in 2006 reported the highest annual net profit in history at $39.5 billion, reports earnings Apr. 26 and Chevron (CVX) the following day. Though ExxonMobil has been downgraded by several analysts, strong refining margins could boost the company's first-quarter profits.