Bearish macro… bullish fundamentals

21 March 2023 Time to read:  minutes

Flat price movements currently dominate the conversation around oil.

Following the multiple calls for crude to start rallying on the back of China’s reopening and extremely tight stock forecasts for 2H 23, we are now seeing a market testing the lower end of the bear market channel that started in early March 2022.  

The market is in a clear risk-off mode on the back of the uncertainties surrounding the potential insolvency of multiple EU and US Banks.

Sparta Live Curves

You have plenty of literature out about CS and SVB and their impact on oil, so let’s focus on the fundamentals and the opportunities this sell-off has created.

Indeed, most of the time, when macro risk-on or risk-off moves drive the market, it tends to create unexpected market opportunities. The most liquid markets (futures, and particularly crude futures) tend to move faster than swaps.

Consequently, TA arbs collapsed, and last week’s glimmer of hope to see arbs opening up to NY again faded quickly, and now April arbs are shut again for both traders and refiners. This happens at the same time as French refineries strike, putting additional pressure on what was already a tight market.

At these levels, Europe has protected its local market and has now shut arbs to all major outlets in the Atlantic Basin and LatAm.

At these prices, only Med and NWE refiners will be able to supply a tightening TA market.  Peak PADD 1 gasoline stocks are behind us (64.3M bbls mid-Feb), and the market has started eating into these stock levels. 

As mentioned in the past, the summer arbs have been shut since more than December. This indicates that traders have not had any opportunity to lock forward arbs, and we anticipate a very low level of term deals for summer.

This puts additional pressure on the front months’ price action over the coming week: Europe will play defence as it has been unable to replenish stocks during winter and has almost exclusively traded in backwardation with very strong component cash diffs.

On the other hand, NY has been self-sufficient until now, but it will have to do a much better job to attract European resupply barrels.  

Sparta Live Curves
Sparta Global ARBs – Pricing Centre

If that is the case, the solution must come from EoS, either with cargoes into WAF from AG or Far East cargoes into Mexico and LatAm. AG is currently very busy with a heavy program into Iraq and East and South Africa.

On the other hand, Far East cargoes have been regularly flowing into west coast Mexico. Higher cracks will also be needed to incentivise an overall higher gasoline yield in the Atlantic Basin.

The market has done the job, and April cracks are at the same levels as last year, sitting at the highs of the past eight years.

The most recent rally has taken European gasoline cracks above diesel on a tonne basis from April through to August, which may have come just in time to have a positive impact on yields from mid-Q2 onwards, but is already coming under pressure once more from a resurgent distillate complex which can also ill-afford interruptions in supply.

As such, a repeat of last year’s supportive refinery economics appears increasingly likely as fundamental tightness will eventually have to trump current macro risk-driven moves.

Sparta Historical Forwards

In the meantime, freight continues its wild swings on TC2, adding extra uncertainty and volatility to any arb movement into the US as summer approaches. Although, at these levels and with arbs shut again, don’t be surprised to see a correction in TC2. The market is in strong backwardation into June (from the prompt 50 USD/T to 32 USD/T in June.

On the other hand, LR1 and LR2 vessels carrying diesel from the Red Sea and AG are blocked in France, waiting to discharge, which should add some support on larger tonnage vessels.

Sparta Freight Calculator

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Felipe Elink Schuurman is CEO and Founder of Sparta. A former trader, Felipe drives strategic vision and growth at Sparta. Before Sparta, Felipe worked and traded for BP, Vertical and Gunvor.

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