Blend Off

Published at 10:11 24 Aug 2018 by . Last edited 11:18 22 Aug 2019.

A curious spate of incidents involving bad-quality bunker fuel underscores the challenges the industry faces over the coming months as suppliers drain tanks and start making new blends. The problems have spurred suggestions that IMO-compliant VLSFO could face similar challenges, lulling MGO bulls into a false sense of security.

Debate surrounding IMO 2020 has been hijacked in recent months by a wall of media stories announcing scrubber orders by shipowners. It has seemed like a stampede, with 361 orders announced since the beginning of July alone, amounting to a third of all orders ever placed.

The recent bout of scrubber mania has taken the edge off 2020 HSFO oversupply fears, flattening out the contango structure, which until recently had so doggedly clung to the January 2020 HSFO contract. Hedging by scrubber buyers is probably playing a role here. Even so, design, production and delivery bottlenecks mean that scrubbers will probably keep alive only 0.6 mb/d of HSFO demand in 2020, leaving 2.5 mb/d to switch to MGO and VLSFO after assumed non-compliance and slow-steaming. A lot of HSFO must still disappear very soon.

But while scrubbers are clearly enjoying their moment in the sun, VLSFO has been relegated to the shadows. After all, if the market is struggling to supply on-spec 3.5% material, the global norm since 2012, how will it handle enigmatic blends of VLSFO? Switching to MGO is widely considered to be the likely default response from shipowners, with most conversations about VLSFO focussing on its drawbacks, including potential compatibility and stability issues.

Yet there are already clear signs that conflating VLSFO’s market potential with the current bad bunker outbreak is a big mistake. Vopak and Maersk this month announced plans to launch a bunkering operation at Vopak’s Europoort site in Rotterdam, supplying 2.3 Mtpy of VLSFO. Vopak’s thinking, devised in partnership with one of the largest shipping companies in the world, is clear: it believes that the VLSFO price discounts on offer will help shipowners to overcome their compatibility/stability fears. 

VLSFO production will be made easier by the excess gasoline production currently indicated by our 2019 balances. Hydrotreated VGO, the main FCC feedstock, is a prime candidate for VLSFO blending. Hydrotreated VGO is a tidy way of avoiding gasoline builds and simultaneously reducing output of HCO/LCO, two products that often find their way into the HSFO bunker pool.

All of this suggests that those banking on VLSFO remaining a ‘niche’ product amid monstrous demand for distillates will be rudely surprised. Indeed, VLSFO demand could easily exceed 0.7 mb/d in 2020, taking total bunker-related fuel oil demand to 2.0 mb/d—higher than the nightmare scenarios envisaged by some. Still, while refinery fuel oil destruction projects are gathering pace, they are insufficient to fully eradicate excess HSFO supply. This is consistent with our long-held view that HSFO will need to be cheap from mid/late 2019 onwards.

Yet this softness still lies some way in the future. For now, fuel oil stocks are low and buyers are reluctant to touch bunkers from lesser-known suppliers, which is keeping the market tight despite the impending seasonal slowdown in Middle Eastern fuel oil demand.

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