- New IMO regulations imposing stricter sulfur limits on the shipping industry have broad implications for energy, including midstream.
- Demand for crude and refined products from the US are expected to be impacted by the shift in regulations.
- US energy infrastructure companies are positioned to capitalize on the growing need for US crude exports to produce compliant fuels.
Shippers and energy companies have spent the last four years readying themselves for this January and will need to adapt to comply with the new sulfur limits, says an article published in SeekingAlpha.
This article explores shippers’ paths to compliance, effects on global oil demand, and the related opportunities for US midstream. Here’s an excerpt from it.
Sulfur cap decision
- In 2016, the International Maritime Organization (IMO) affirmed its decision to reduce the legal amount of sulfur in marine fuels to 0.5% from 3.5% starting in 2020.
- Shippers and the energy industry have been positioning to comply with the stricter standards.
Transition effect on midstream
The shift to IMO 2020 compliant fuels will have a wide range of effects for energy and midstream. This includes an expected increase in demand for the light sweet crude produced by the US.
What is IMO 2020?
- IMO 2020 is International Maritime Organization’s call for reduced sulfur content in ship fuels by 2020.
- The IMO is a specialized, standard-setting agency of the United Nations tasked with regulating safety, security, and environmental considerations in international shipping.
- On January 1, 2020, the maximum amount of sulfur allowed in marine fuels will be reduced to 0.5% from the current 3.5%.
- This change reflects the IMO’s commitment to reducing ozone emissions after previously cutting sulfur limits from 4.5% to 3.5% in 2012.
- Stricter standards are already in place in Emission Control Areas, such as in the Baltic Sea, North Sea, and North American coast, where sulfur is limited to 0.1%.
How to achieve compliance?
With the new sulfur limits imminent, shippers will need to adapt to comply. Owners can either burn non-compliant high sulfur fuel oil and do the needful to comply or use compliant fuel.
Burning non-compliant HSFO
There are two options for ships that wish to continue burning non-compliant high sulfur fuel oil (HSFO).
- The first option is to use an exhaust gas cleaning system, commonly referred to as a scrubber.
- The second way to continue buying HSFO is by blending.
Scrubbers
- Scrubbers are attached to the exhaust system of a ship and essentially act as a filter, removing the sulfur normally emitted into the atmosphere.
- These systems entail large upfront expenditures, as they can cost anywhere from $1 to $7 million depending on the ship.
HSFO by blending
- Blending entails mixing HSFO with a compatible fuel containing a low amount of sulfur and
- diluting it to the point where the resulting fuel is compliant.
Shifting to compliant fuel
Shippers may instead choose to fully shift to compliant fuels.
- The most popular substitutes for HSFO include low sulfur fuel oil (LSFO) and marine gas oil (MGO) or marine diesel, which is considered a distillate.
- LSFO and MGO, with a sulfur content below 0.5%, are both compliant fuel choices that require little to no modifications to the engines and fuel systems in each ship.
- Another fuel alternative is liquefied natural gas (LNG), which contains only trace amounts of sulfur, but like scrubbers, requires a large capital investment for the engine (around $5 million).
How is oil demand affected?
LSFO and MGO in particular are viewed as attractive alternatives to HSFO due to their compatibility with existing engines.
According to the U.S. Energy Information Administration (EIA)
- low-sulfur fuel oil is expected to jump to 38% of US marine vessel bunkering in 2020, with that number increasing to 43% in 2025.
- Distillate (such as MGO) is predicted to account for 57% of US bunker demand in 2020, up from 36% this year.
Looking at the graph below, this trend is expected to extend beyond the US bunker market as global demand for LSFO and distillate is forecasted to spike in 2020, replacing demand for HSFO.
With demand rising for these fuels, their prices are expected to increase.
Greater volumes of crude processed
Global refineries are expected to process greater volumes of crude in order to meet rising distillate demand, which would be supportive for oil prices.
Low-sulfur fuels are easier to produce with the light, sweet crude from US shale. Less complex foreign refineries will likely need more light, sweet crude to produce compliant fuels, which bodes well for US crude exports.
Change in input needed?
The management of refiner PBF Energy (NYSE:PBF) estimates Atlantic Basin refiners alone may require an incremental 1 million barrels per day of light crude to comply with IMO 2020.
Complex US refineries can run heavy, sour oil to make low-sulfur fuel and will likely not require a change in input.
Complex refiners stand to benefit if differentials between light and heavy crudes widen as a result of IMO 2020 and a demand shift occurs favoring light sweet crude over heavy crudes.
IMO 2020 to benefit US midstream?
While refiners and shippers may be the primary players in the IMO 2020 story, there is also an opportunity for US midstream.
As discussed, incremental demand for light, sweet crude from less complex foreign refineries should be supportive of growing US crude exports.
Several midstream companies have been developing crude export capacity. For example,
- Enterprise Products Partners (NYSE:EPD) is expanding its Houston Ship Channel terminal and has entered long-term agreements with Chevron (NYSE:CVX), supporting the development of EPD’s offshore Sea Port Oil Terminal.
- Magellan Midstream Partners (NYSE:MMP) expects to complete an expansion of its Seabrook crude export terminal joint venture with LBC Tank Terminals in early 2020.
- Even more midstream companies are involved in bringing crude from the wellhead to the coast for exports.
- While US crude exports are expected to grow regardless of IMO 2020, the regulation is supportive for light, sweet crude demand.
Beyond growing US crude exports
Opportunities also exist beyond growing US crude exports.
PBF Logistics (NYSE:PBFX) announced an agreement in February with shipping company Maersk to process crude using previously idled assets at a terminal facility in New Jersey to supply IMO 2020-compliant fuel to Maersk.
The terminal and idled processing assets were purchased in 2018 with a view to adding marine storage ahead of IMO 2020, but the processing deal with Maersk drives incremental EBITDA that was not originally anticipated.
On its 2Q19 call, PBFX indicated that processing would begin in October – two months earlier than originally planned – as preparations begin for compliance.
Midstream with marine product terminals
Midstream companies with marine product terminals may also benefit from IMO 2020.
- Exports of low-sulfur distillates from the US are likely to increase as shippers seek to secure compliant fuels.
- Storage levels could also be impacted, though perhaps in a more transitory way.
- As demand for high-sulfur fuel oil craters, storage of HSFO may increase until volumes can be sold for further refining or perhaps blending.
- Storage of distillates may increase in anticipation of needing extra inventories for compliance.
Bottom Line
It is still unclear what the exact effects of IMO 2020 will be on the shipping industry as well as the implications for oil and refined product prices. Increased demand for light, sweet crude should be supportive for growing US crude exports, and distillate exports from the US are likely to increase as well.
US midstream companies are positioned to take advantage of this increased demand due through their transportation, storage, and export assets.
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Source: SeekingAlpha
