According to a Platts report, Refiners and analysts see stronger refining margins resulting from the International Maritime Organization’s impending requirement that ships use lower-sulfur bunker fuel, but waning global demand for crude and refined products could more than offset that optimism.
People are scavenging to find a solution
Many across the industry have been scanning price, inventory and flow data to measure when and how IMO 2020 will impact their operations and profit margins as the January 1 deadline for cleaner bunker fuel looms. The new requirements call for ships to use 0.5% sulfur bunker fuel, down from the current 3.5%.
Clean fuel prices to affect profits
Shippers were concerned that prices of more expensive, cleaner fuel would eat into already soft profit margins, while refiners were expecting a windfall, forecasting refining margins of up to $50/b starting in early 2020 for making clean fuels.
But weaker global oil demand for refined products has most analysts and refiners tempering their initial scenarios on the refinery sector impact ahead of the onset of IMO 2020.
Weaker Demand
“The outlook for demand growth is softer, resulting in a 300,000 b/d lower demand level for total refined products in 2020 than what we expected in our earlier IMO reports,” wrote Rick Joswick, head of Oil Trade Flow & Pricing Analytics for S&P Global Platts Analytics in July in his third update of Making Waves, a research publication which thoroughly examines the impact of IMO 2020 on the oil industry.
Joswick is not alone in expecting weaker demand ahead from a slowdown in global economies and tariff-related trade tensions. Since early May, Barclays bank has reduced its global oil demand forecast by 400,000 b/d for 2019 and 500,000 b/d for 2020 because of lower growth expectations, while the US Energy Information Administration in July cut their forecasts for global oil demand to 1.1 million b/d in 2019, 200,000 b/d below their June estimates, and their sixth consecutive downward demand revision. In 2020, the EIA expects demand growth to average 1.4 million b/d.
Phillips 66 still bullish
While some in the market have moderated their expectations, most refiners still see a big jump in clean fuel demand and margins from IMO 2020.
Noting some European refiners have expressed concern about the slowing economy, Phillips 66 CEO Greg Garland said in June he still expects a positive impact on refining margins from IMO 2020 in the second half of 2019 and into 2020.
“We still have IMO yet to kick in in the second half, which I think is going to be very constructive, although maybe not as constructive as people thought in the first half of 2018,” he told attendees of JP Morgan’s 2019 Energy Conference in New York.
Marine gas oil, with 0.1% sulfur, is emerging as an important fuel contender, as the lack of new standards for compliant marine fuel is creating concern and confusion among shippers feeling their way to find the optimum fuel supply.
Low Sulfur Bunker Hesitant To Plan?
The International Organization for Standardization, the global standard-making body, is expected to issue new standards in mid-2019. But until they provide the world-class specifications for the new, lower sulfur bunker fuels, shippers are hesitant to plan too far ahead.
As a result, Platts Analytics forecasts a spike in MGO demand in Q4 2019 and the first half of 2020, as much as 1.5 million b/d of year-on-year growth in the first half of 2020.
“We expect MGO use will initially increase sharply,” Joswick said. “But will gradually be replaced by VLSFO (very low sulfur fuel oil) as it slowly gains widespread supply/acceptance/use.”
VLSFP Production
While refiners are working to manufacture VLSFO ahead of the January 1 deadline, production is not yet widespread. Exactly how much VLSFO will be produced and where that production will be located is still uncertain.
In April, Petrobras produced its first batch of VLSFO from its Isaac Sabba refinery located in the Brazilian state of Manaus, with a 0.34% sulfur content, and is making the effort to produce more from its other refineries.
Higher Prices Likely?
Nevertheless, MGO spreads to Brent are on the rise in key US ports, showing an increase in demand, particularly along the US Gulf Coast and US Atlantic Coast. And prices are likely to rise further as IMO 2020 draws nearer and other demand pulls on supply.
“The key to pricing will be covering demand for low sulfur fuels (MGO in particular) through the winter … when on-shore demand for heating also increases seasonally,” said Joswick.
Platts in July rolled out bunker assessments for 0.5% bunker fuel for use in Singapore, Europe and the US.
Expectations are for a wide range of these blends to emerge with varying specifications, which will help address shipper concerns about fuel quality.
Both ICE and NYMEX futures exchanges have 0.5% contracts set in place ahead of IMO 2020, but contract liquidity remains thin as traders adopt a wait-and-see position.
Switch to 0.5% Cargo Assessment
On the physical market, some Asian companies have begun to switch to 0.5% cargo assessments as the pricing benchmark, including Indonesia’s state-owned Pertamina and India’s Nayara Energy.
Austrian refiner OMV plans to sell 0.5% marine fuel beginning in the fourth quarter. ExxonMobil has developed new low-sulfur fuels compliant with IMO 2020 specifications available ahead of IMO 2020 in specific ports in Europe and Asia.
IMO Friendly Plans of US Refiners?
While US refiners have not explicitly released plans for their IMO-friendly fuels, those with plants on the USGC and USWC will benefit. Their high proportion of coking capacity will allow them to be able to maximize the use of cheaper, sour crudes to make cleaner low sulfur fuels, increasing profit margins.
US coking margins in June and July have been weak as seasonal demand for heating and agricultural planting wanes and global demand is falling off.
But once colder weather and harvest demand kick in the fall, margins are likely to rise and, analysts say, the true impact of IMO 2020 will likely be felt. In fact, Platts Analytics pinpoints this impact as soon as September 2019.
USGC ULSD prices are expected to reach $105/b in December, compared with just $71.86/b in December 2018, according to the latest forecast from Platts Analytics.
Middle Distillates Outlook
Globally, the outlook for middle distillates stock build before IMO 2020 is lower than previously expected due to refinery closures and higher-than-expected maintenance, which could balance out weaker demand in supporting margins.
In the US, the shuttering of the 335,000 b/d Philadelphia Energy Solutions refinery will cut back USAC output of gasoline and diesel. The early July closure — at the beginning of the summer driving season — has increased the price difference between gasoline and diesel, which “will trim distillate yields and thus limit distillate stock builds this summer,” Joswick said, as refiners increase gasoline output to make up the difference. The refinery had 128,000 b/d of gasoline-making capacity operational at the time of closure.
European refiners will benefit from the closure of PES as they look to increase imports to the US, which also will cut back on their ability to build inventories of distillate ahead of IMO 2020.
And globally, middle distillate inventories are still “fairly tight,” Joswick said. “Runs so far in 2019 have been constrained with much higher than average refinery maintenance. Market structure is unlikely to provide incentives to traders to build stocks.”
US Refiners Stockpiling Benefit
However, the US refining complex will benefit from the lack of stockpiling, despite slowing demand. Large sophisticated plants with high coking capacity give them the flexibility to be nimble in taking economic advantage in market changes.
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Source: S&P Global
