Non plus ultra

Published at 09:38 18 Aug 2017 by

Atlantic basin gasoil markets are entering the autumn in a position of strength on the back of solid demand, unplanned global refinery outages, and Latin America’s recurrent refinery problems. In the case of Europe, ULSD looks tight even though imports of US diesel are set to jump to a record high this month, leading to temporary stockbuilds. These heavy inflows will weigh on gasoil spreads in the short run, but they will be called upon in the autumn.

Planned work in Europe is set to be higher y/y in September and October while demand has been racing upward as Europe’s economic growth accelerates. Diesel demand across the continent jumped y/y by 0.5 mb/d in both May and June and solid construction activity will keep demand supported over the autumn.

Europe will need to pull 1.5 mb/d of gasoil over the autumn to balance, 0.2 mb/d more than last year. However, available resupply will be lower amid heavy Russian maintenance. East of Suez, balances are less compelling, but the region does not have much surplus ULSD. Asian oversupply in August should correct itself from September, suggesting that current weakness in the Singapore market may be short-lived. The only country with any real capacity to add supply in Q4 17 is China, but environmental inspections and quota limitations are capping flows, so H2 17 exports may even be lower y/y. Meanwhile, heavy refinery work in India towards the end of the year is a further source of upside risk, if the country’s June buying is any guide. Moreover, Saudi Arabia has started to buy large volumes of gasoil despite weaker domestic demand.

That leaves the Americas as the only obvious source of European resupply. US autumn turnarounds look extremely light, at just 0.7 mb/d on average, half the level of a year ago. But Latin America’s pull on USGC barrels will not fall sharply, so the impact of resupplying Europe may be felt strongest in PADD 1 as lower imports reduce local inventories ahead of winter.

None of this means that the global distillates market is out of the woods yet, but stock cover has come down, which means that prices are more responsive to shortfalls and unplanned refinery outages. Already a string of incidents in Europe have pushed up prices and a fire at the 0.33 mb/d Deer Park refinery near Houston will tighten USGC markets. OECD distillate stocks were around 60 mb above the five-year average in June, some 20 mb lower than the overhang in June 2016. By end-August, the OECD distillate overhang is likely to be closer to 40 mb, and once demand growth is considered, OECD and European inventories on a days-of-forward-cover basis will be on par with the five-year average.

Thus, after this month, Atlantic basin diesel markets look biased to the upside. The deficit in our Atlantic basin balances in September is comparable to September 2016 levels, while the October deficit is 0.1 mb/d larger than October 2016 despite our expectation that US turnarounds will be lower y/y. While the European economy continues to grow strongly, the region looks increasingly vulnerable to shocks, particularly given that there is little spare refining capacity elsewhere capable of meeting stringent ULSD specifications. Much of this bull story has already been priced in, but it will not take very much in the form of unplanned outages or bad weather to get the market going again.

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