Unexpected Anomalies In Oil Markets

Some trends are just impossible to predict because before they take place, the mere idea of them materializing seems like outlandish. Yet, sometimes the market takes everyone by surprise - the latest such instance which remains to be felt across global crude markets, is the weakness of gasoline margins and remarkable resilience of fuel oil margins. For all of November, gasoline at the Singapore trading hub traded at a discount to fuel oil, even though for much of the year the relation was converse - gasoline was at least 10-15 USD per ton more expensive. There are many factors at play, yet the palpable saturation of the market with light crudes and relative dearth of heavy ones following the second round of U.S. sanctions on Iran takes precedence over the others.

But it is not just the spectacular 1.5 mpbd year-on-year increase in American crude output that has brought this about. As we have established in our previous reports, Libya's output has stabilized above 1mbpd and the Libyan NOC is working hard to boost production further. Nigeria, too, is reaping the rewards of several relatively calm months, with production reaching 2.16mbpd, a 300kbpd increase compared to May-June 2018 levels. Leading producers of heavy crudes, however, have been suffering - Iran is under U.S. sanctions, whilst Venezuela tries to deal with a damaged pier, blackout-induced fires and property forfeiture at the same time. The narrow light-heavy margins will persist for some time as the demand for middle distillates (read: Diesel) is globally on the increase.

Expensive diesel fuel will contribute to many nascent trends - it would help Europeans turn in even greater numbers towards gasoline-fueled cars (diesel still accounts for roughly 55 percent of all the fleet), it would change the way air carriers use their fleet, shipping companies distribute their cargoes and many more. Of course, it is necessary to add in these situations that this would not last forever and that at some point behavioral changes and unforeseeable external developments would change the current setup. However, if we are to concentrate on the now, we can clearly highlight a bevy of countries or producers that are thoroughly enjoying the current depressive state of gasoline margins.

Robust fuel oil margins have helped Urals (30-31 API, 1.6-1.7 percent sulphur) do the unthinkable - for more than a week Urals is traded in both the Baltic and Mediterranean regions with a premium to Dated Brent, the European benchmark which is superior to it in terms of quality. The 40 cent per barrel premium evidenced in the Baltics trading window early this week is a feat unseen since 2013. Were it not for (the usual) protests in France - the Gilets Jaunes ("yellow shirts") movement has been causing some spectacular chaos all over the country, compelled by President Macron's decision to levy a diesel tax in times when diesel prices are anyway rising - the Urals premium to Brent could have stayed at that level for longer, however, shutdowns in French refineries somewhat curbed demand for the Russian grade, pushing its premium over Brent to 10-15 cents per barrel.

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Source: OilPrice data.

Moreover, the valuation of Urals came on the back of much more robust supply - during the last two weeks of October 31Mbbl of Urals was loaded from Primorsk, Ust-Luga and Novorossiysk (roughly 2.2mbpd instead of the yearly average of 1.85mbpd). The reason why higher volumes did not translate into price weakening lies in Asian, largely Chinese, demand for the grade - October loadings destined for China rose to some 350kbpd, more or less evenly spread out between the Baltic and Black Sea loading ports. As Singapore fuel oil refining margins just reached their highest level in the 2010s (the European ones peaked a couple of weeks ago) and with only limited volumes of Venezuelan crude around, Urals was the answer to the Chinese conundrum. Urals reached 10 Chinese ports this year, with the most of it delivered to Qingdao (6 million barrels so far with at least one 270kt VLCC arriving in December).

Yet the spread of Urals touched other regions, too - as we speak now, two 750kbbl cargoes are heading towards North America - one is destined to reach Philadelphia, Pennsylvania in 10-12 days, the other should offload at the KNOC-owned Canadian Come by Chance refinery on the island of Labrador in 6-7 days. Interestingly, last year Europe accounted for 91 percent of all Urals supplies, now it slipped a bit to 89 percent, partially because the second half of 2018 finally saw some movements of Urals to North America (in all six months of H1 2018, there was only one cargo destined for North America, in H2 there are already seven). If there are winners, however, there must be also those who lose out on the current trend.

Naphtha-rich grades have struggled recently, especially so since mid-November when front-month CIF NWE naphtha crack swap assessments broke four-year lows on the back of refinery maintenance and weak gasoline margins. For instance, the Algerian Saharan Blend traded this week with a 70 cent per barrel discount to Dated Brent (the December OSP stipulates a 55 cent per barrel discount even though November official prices were set at a 30 cent per barrel premium to it), a more than a dollar's decrease when compared to trading late September - early October. Thus, in retrospective one can say that under current circumstances it is not enough to have a sweet grade - the sweet crude also has to be rich in mid-distillates.

The Libyan Es Sider represents the other side of the shield - refiners were offering a 50 cent per barrel premium to the official November OSP price just to secure a cargo of it. A competitor on the Mediterranean market, gasoil-rich Azeri Light premiums reached a four-year record at 2.85 USD per barrel against the BTC Dated Strip. All the recent developments notwithstanding, the end of winter and refinery maintenance will put an end to this weirdest of times. Demand for fuel oil will weaken over time - take South Korea, which has restarted three fuel oil-fueled power plants to cope with possible winter colds. Yet after the winter comes to an end, these power plants will be most likely plugged off for another five-month hiatus, just like they were last year. The permanent crude flux never really ends.