Synopsis: HPCL, BPCL and IOC are in focus after Investec flagged Diesel Crack as one of the reasons that the investors are overlooking the turn of positive development against the doubling of refining margins (GRM) to $13 per barrel.
The shares of leading OMCs like India Oil Corporation, Hindustan Petroleum, Bharat Petroleum and others are in focus after Investec cited that the retail investors are ignoring a key metric in ascertaining the OMC known as ‘Diesel Cracks’. But what are those, and how does it impact OMCs? In this article, we will dive more into the details of it.
Analyst Comments
Leading brokerage house, Investec, has downgraded OMCs like HPCL, BPCL and IOC to “Sell” from earlier rating of “Hold”, signalling a potential downside of 8 percent each for HPCL and BPCL and a 12 percent downside for IOC, citing the market is overlooking one of the key risks for these companies.
Investor enthusiasm for OMCs such as HPCL, BPCL, and IOC has skyrocketed lately as a result of soaring refining margins. In less than two months, Singapore’s Gross Refining Margins have already doubled to $13 per barrel; thus, its refining profitability is getting more and more attractive. However, Investec warns that this is only one side of the story – the real earnings driver for OMCs is marketing margins, not just refining.
The brokerage points out that diesel cracks are currently at a very high level. Diesel cracks, or the diesel crack spread, represent the profit a refinery can make by converting crude oil into diesel. It is calculated as the difference between the cost of a barrel of crude oil and the selling price of a barrel of diesel produced from it.
This situation is good for export refining profits; however, if pump prices are not increased, domestic diesel sales become unprofitable. Consequently, diesel marketing margins have decreased from around Rs 4 per litre to the negative zone, which can have a major impact on the company’s earnings if the trend persists. That is why Investec is convinced that the market might be overlooking the existence of this important risk.
Thus, strong refining margins have been the main factor in the positive sentiment around OMCs; however, the increase in diesel cracks is going on without notice and harming their core fuel-retail business. The present rally may not be able to continue if prices do not improve or if the diesel crack does not decrease, and therefore, investors should be very attentive to this risk.
Written by Satyajeet Mukherjee
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