Upgrading Investment Slows in Face of IMO

Vertically-integrated oil companies’ acquisitions of struggling independent refineries will avert a contraction of Russian distillation capacity. However, the demise of New Stream is just one more development dampening the prospects for the addition of upgrading capacity by the time new IMO regulations take effect. A maximum of two hydrocrackers will enter into operation by the end of 2019. For many refiners, adapting to IMO will consist of the vacuum units already in place.

Market Alert: Contaminated Oil Upends Russian Crude Flows

The contamination of Russian oil will cause Druzhba exports to fall in May-June and possibly beyond. Normally, the Spring maintenance season leads to a spike in Russia’s overall crude exports, but the disruption is preventing that spike in April-May. April’s 5.4 million b/d of overall exports were a little higher than in the first quarter average, and we tentatively expect Russia to maintain exports at that level in May. To compensate for lower Druzhba flows, we believe Russia will increase seaborne exports, especially from the Black Sea.

OPEC+ Cuts Mean Room to Replace Iran

According to preliminary estimates, OPEC countries produced just under 25.4 million b/d of crude oil in April 2019, roughly 40,000 b/d less than in March. This marked the second consecutive month, in which OPEC cuts were 800,000 b/d in excess of the pledged amount. This represents considerable spare capacity to replace lower Iranian exports. In May and June, OPEC+ will meet to discuss and then decide whether to abandon this production restraint. The members may try to keep the structure of the agreement but raise production as the Iran situation becomes clear.

India Leads Diesel Recovery While China’s Demand Keeps Shrinking

In 2019, general elections in India will contribute to the country’s robust demand growth of transport fuels. Despite Beijing’s stimulus, diesel demand in the first quarter collapsed to a decade-low and may decline by 100,000 b/d this year. But strong demand in India and a boost from IMO will more than offset the weakness in China’s inland diesel, resulting in an overall diesel growth of 100,000 b/d in Asia.

Mexico’s Crude Production Declines Again

Private production is creeping up in Mexico, but Pemex’s promised increases look unlikely to materialize. Bad luck and accidents have played a role in some recent declines, but Pemex is struggling to find the funds to raise upstream investment sufficiently to increase production. Mexico’s crude production will average 1.7 million b/d in 2019, down by 100,000 b/d from last year.

Europe’s Hydroskimming Refiners Eagerly Await 2020

Overall refining margins will be bullish in 2020. Gasoil and low sulfur fuel oil spreads to crude will overwhelm the weakness in high sulfur fuel oil and other fuels, initially. These pricing dynamics will be beneficial to refiners at both ends of the complexity spectrum. Light sweet crude refiners will benefit from gasoil and low sulfur fuel strength. At the other end of the spectrum, steep discounts for heavy sour crudes will support margins for refineries that can upgrade the HSFO in these crudes.

Gasoline and Diesel Production Surges Through 2020

After increasing by less than 100,000 b/d last year, combined Middle Eastern production of gasoline and diesel will rise by roughly 350,000 b/d in both 2019 and 2020. This growth will be centered in Saudi Arabia and Iran, and driven by refinery capacity expansions. Significant supply growth and comparatively muted demand growth for these products will lead to a widening of the Middle Eastern diesel surplus and narrowing of the region’s gasoline deficit.

Lighter Crude and Underused Pipelines

Growth from the Permian is expected to slow down slightly, averaging around 650,000 b/d over the next two years due to subdued productivity gains and investor pressure to rein in spending. This will bring West Texas Light (WTL) production to about 680,000 b/d or about 14 percent of the total. Tremendous pipeline capacity expansion will likely make quality batching easier, but still result in under-utilization out of both the Permian and the Rockies. Meanwhile, further pipeline expansion delays threaten Canadian Oil Sands production.

Capacity Outpaces Demand to 2020

ESAI Energy estimates that distillation capacity will rise by nearly 1.4 million b/d per annum in 2019 and 2020. The majority of this new capacity is being added in Asia and the Middle East and it will significantly outpace global demand for crude derived products. As a result, it will begin to put pressure on global utilization rates, despite higher throughput expectations linked to IMO. Most new capacity in Asia and the Middle East, including petchem-integrated units in the former, will process medium/heavy crude from the Middle East. This will make it challenging for U.S. exports to further penetrate the market. Among other things, this means U.S. exports will seek to displace competing suppliers at existing refineries.