De­mand for oil has sur­passed sup­ply for the first time in years. An­a­lyst Tor­b­jørn Kjus shares his thoughts with us.

De­mand for oil has sur­passed sup­ply for the first time in years and this has seen prices start to re­cover af­ter a dra­matic fall be­tween 2014 and 2016.

Norway-Asia Business Review - - Contents - CHEYENNE HOL­LIS

Mean­while, ship­ping in­dus­try fuel burn­ing reg­u­la­tions set to take ef­fect in 2020 could change de­mand trends in the bunker oil mar­ket. Things hap­pen quickly in the oil mar­ket, but as DNB Mar­kets Oil An­a­lyst Mr Tor­b­jørn Kjus notes, peo­ple be­come com­pla­cent when things stay in a tight range for an ex­tended pe­riod of time. Even­tu­ally, when the mar­ket moves, it takes a while for it to get no­ticed. This is a les­son many have learned in 2017.

“The nar­ra­tive re­gard­ing the oil mar­ket has changed. To start 2017, the nar­ra­tive from com­men­ta­tors was Or­gan­i­sa­tion of the Pe­tro­leum Ex­port­ing Coun­tries (OPEC) is cut­ting pro­duc­tion and in­ven­to­ries are not grow­ing. That was be­cause US shale kept fill­ing the in­ven­tory gap. The con­clu­sion was noth­ing would work to re­duce global oil in­ven­tory,” Mr Kjus pointed out dur­ing the Nor­we­gian Busi­ness As­so­ci­a­tion lun­cheon talk held in Sin­ga­pore.

He con­tin­ued, “Now the nar­ra­tive is OPEC dis­ci­pline is high, in­ven­to­ries are down and be­cause they are down, po­lit­i­cal risk has more im­pact on the price. It is a very dif­fer­ent sit­u­a­tion then we had four months ago when the price was at USD 45 a bar­rel. The price is now up to USD 64 per bar­rel. Peo­ple for­get just how fast the mar­ket can change and it is pleas­ant to see the sit­u­a­tion re­bound.”

One of the big­gest shifts in the oil mar­ket has seen de­mand sur­pass sup­ply, some­thing last recorded back in 2013. The change has been due in large part to OPEC and its al­lies out­side the group, in­clud­ing Rus­sia, agree­ing to cut pro­duc­tion to 1.8 mil­lion bar­rels per day in 2016. This move has been the cat­a­lyst for re­cov­er­ing oil prices, but in Mr Kjus’ view, nei­ther banks nor the me­dia have re­ported on the fall­ing in­ven­tory.

“There was an as­sump­tion from the Wall Street banks that the OPEC deal would col­lapse, but now we are see­ing Wall Street re­vise their es­ti­mates, as OPEC dis­ci­pline re­mains strong,” he stated.

De­spite the scep­ti­cism, OPEC was able to stay true to the agree­ment with the ma­jor­ity of coun­tries hav­ing fully com­plied or reached at least 80 per­cent on av­er­age of the cut­back tar­get. Some coun­tries, such as Saudi Ara­bia, An­gola, Qatar, Brunei and Mex­ico, slashed pro­duc­tion be­yond what they had ini­tially promised.

In Novem­ber, OPEC, along with its al­lies, agreed to ex­tend the pro­duc­tion cuts un­til the end of 2018. Nige­ria and Libya, who were ex­empt from the pro­duc­tion agree­ment when it was first signed, joined with it as part of the ex­ten­sion.

“Fundamentally, the cuts have worked well,” Pa­trick Pouyanne, chief ex­ec­u­tive of­fi­cer of To­tal SA, told Bloomberg. “I’m not sur­prised they de­cided to ex­tend. ”

OPEC’s abil­ity to fol­low through with pro­duc­tion cuts wasn’t the only sur­prise the oil mar­ket saw in 2017. Where the in­crease in oil de­mand is orig­i­nat­ing from has been a rev­e­la­tion to some in the in­dus­try. De­spite ex­pert pre­dic­tions, oil de­mand from the Or­gan­i­sa­tion for Eco­nomic Co-op­er­a­tion and De­vel­op­ment ( OECD) has come back to growth in the past few years.

“That wasn’t sup­posed to hap­pen. OECD de­mand was be­lieved to have peaked ten years ago. It peaked in

Europe in 2006 and fell every year up un­til 2014,” Mr Kjus re­ported. “It started turn­ing around in 2015. There was also a large growth in 2016 and again in 2017. The growth in 2015 and 2016 sug­gest it may be due to price elas­tic­ity since there was no eco­nomic growth in the OECD dur­ing this pe­riod.”

The jump in de­mand was shown in the prices. Mr Kjus notes that if prices are at USD 100 per bar­rel, de­mand from Europe shrinks by 250,000 bar­rels per day. How­ever, when prices are at USD 50 a bar­rel, Euro­pean de­mand jumps by 250,000 bar­rels a day.

“This is a very mean­ing­ful num­ber and sur­pris­ingly elas­tic. The sit­u­a­tion went from mi­nus to plus on the de­mand side,” Mr Kjus said.

Ship­ping in­dus­try looks to 2020

The ship­ping, oil and re­fin­ing in­dus­tries al­ready have their sights set on 1 Jan­uary 2020. This is when ship­ping ves­sels will no longer be al­lowed to burn 3.5 per­cent sul­phur mass by mass (m/m) fuel. New reg­u­la­tions rat­i­fied by the In­ter­na­tional Mar­itime Or­gan­i­sa­tion stip­u­late that ship­ping ves­sels are only al­lowed to burn 0.5 per­cent sul­phur m/m fuel.

The pol­icy was ap­proved in 2008 and con­firmed by the IMO’s Marine En­vi­ron­ment Pro­tec­tion Com­mit­tee in 2016. The 3.5 per­cent sul­phur fu­el­burn­ing limit took ef­fect in 2012.

“This is a huge change. It’s the largest spec­i­fi­ca­tion change in the oil in­dus­try and it is go­ing to have the big­gest ef­fect,” Mr Kjus stated. “There are three op­tions avail­able to those need­ing to be­come com­pli­ant. They can ei­ther switch fu­els to a com­pli­ant type, in­vest in scrub­bers and de-sul­phurise on the ship or utilise LNG fuel en­gines.”

DNB Mar­kets be­lieves scrub­bers won’t have a mean­ing­ful im­pact by the 2020 dead­line. In­vest­ment in this method have been rather lim­ited thus far due to tim­ing un­cer­tainty and the chal­leng­ing eco­nomic en­vi­ron­ment for most ship­ping sec­tors. At the mo­ment, less than 0.5 per­cent of the to­tal ship­ping fleet uses scrub­bers.

Dual fuel en­gines ca­pa­ble of burn­ing ei­ther LNG or liq­uid fu­els are also un­likely to be widely im­ple­mented be­fore the 2020 dead­line. They are cost pro­hib­i­tive and while this is some­thing the ship­ping in­dus­try could adopt in the fu­ture, it doesn’t make sense for most firms at the present time.

“LNG makes up around 2.5 per­cent of marine fuel con­sump­tion and both tech­nol­ogy and in­fra­struc­ture are evolv­ing slowly mean­ing this method will only have a lim­ited im­pact in 2020,” Mr Kjus noted. This leaves switch­ing fuel type as the most likely op­tion for many firms.

The groups most likely to be im­pacted by the new IMO bunker stan­dards change are con­tainer lines, tankers and dry bulk since they cur­rently use the most high sul­phur fuel oil. Ac­cord­ing to Maersk, the ten largest con­tainer lines will be 100 per cent com­pli­ant with the new sul­phur burn­ing reg­u­la­tions once they kick in on 1 Jan­uary 2020.

Some cheat­ing is to be ex­pected in the short term as firms still use high sul­phur fu­els, but even if this is the case, com­pli­ance rates will still be rel­a­tively high. For ex­am­ple, an IMO GHG study in 2014 found that if there is 50 per­cent cheat­ing tak­ing place within tankers and bulk­ers, the over­all com­pli­ance rate would be 67 per­cent.

De­mand of 0.5 per­cent sul­phur blend fu­els is ex­pected to in­crease by 2.5 mil­lion bar­rels per day in 2020 and re­finer­ies will be un­der pres­sure to pro­duce the on spec ma­te­rial. One key is­sue fac­ing re­finer­ies is how will they meet de­mand for low sul­phur fuel oil. DNB Mar­kets pre­dicts that even when us­ing all their tools, such as cok­ers and crack­ers, to pro­duce low sul­phur fuel oil, they won’t be able to meet de­mand from the ship­ping in­dus­try in the com­ing years.

Ac­cord­ing to Kjus, this means re­finer­ies will also need to feed crude oil into dis­til­late tow­ers. When us­ing these, for every three bar­rels of crude put it, only one bar­rel of marine gas oil is pro­duced.

“The only way re­finer­ies are able to pro­duce enough marine gas oil is to in­crease through­put. If they don’t in­crease through­put of crude oil, they won’t be able to meet the in­crease in de­mand,” Mr Kjus said. “We see that there is enough spare ca­pac­ity in the re­fin­ing sys­tem to meet the in­crease in de­mand for low sul­phur marine gas oil as long as uti­liza­tion rates im­prove.”

And while in­creas­ing through­put into dis­til­late tow­ers may al­low the re­fin­ing in­dus­try to meet the spike in de­mand, it will also cre­ate more high sul­phur resid fuel that must also be moved. Mr Kjus noted there will be an over­sup­plied high sul­phur resid fuel mar­ket once re­finer­ies move to pro­duce the low sul­phur fuel the marine in­dus­try will re­quire in 2020. Re­finer­ies must look at ways to re­duce the ex­pected glut.

“The other uses for high sul­phur fuel are power gen­er­a­tion and in­dus­trial pro­duc­tion. Re­finer­ies will need to find a way to move this fuel on­shore which will most likely be of use in Africa, the Mid­dle East and Asia,” Mr Kjus noted. “The high sul­phur resid fuel will need to be re­ally cheap. De­mand for it won’t be great, so it will have to push its way onto the mar­ket.

PHOTO: DNB

PHOTO: PORT OF ROTTERDAM

Above: The ten largest con­tainer lines will be 100 per cent com­pli­ant with the new sul­phur fuel burn­ing reg­u­la­tions when they take ef­fect in 2020.

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