Cracks feel too complacent three months down the curve

Cash diffs and spreads have generally come down across the board with Sing 0.5 physical down to +78 while high sulphur cash is just below +30. Spreads have also come down accordingly for both complexes.

That’s not too much of a surprise given the initial panic buying and the massive backwardation we saw the last 3 weeks that should have encouraged any available molecules to get to market as quickly as possible in the short term.

What still bugs me a lot is how quick a return to normalcy paper market is seemingly pricing at the moment (either that or it’s pricing in quick and massive demand destruction). That is the most prominent looking at cracks.

Sing 0.5 Jun and Jul cracks are trading slightly above $12 and $11/bbl respectively – chart below shows how that’s very much within the seasonal range.

As I said immediately after the start of the war, the loss of Al Zour supplies to the rest of Eastern market alone is not that significant in the presence of Dangote molecules and the availability of heavy sweet crudes. What is actually important here is the runs cuts that are happening all over Asia.

None of the refineries in Asia is by itself systemically important to low sulphur the same way Al Zour or Dangote is but as a whole they are the actual majority supplier of blending components that go into local bunkering or cargo exports to blending hubs.

If we take a ballpark figure of 5Mbd for runs cuts across Asia and assume a conservative 5% yield in low sulphur streams, we get 250kbd or almost 1-1.2Mtpm of molecules lost. That is substantial when the estimated regional production excluding the AG is a tad higher than 5Mtpm.

Can demand destruction take care of that? I would think not in this case. You can stop driving cars and start taking public transport or walk but ships still need to carry goods around, especially in a world where most things are produced far away from where they are consumed.

The vast majority of these critical supply chains cannot just be halted. The whole COVID lockdown period barely saw an estimated 5-6% drop in bunkering demand globally even when the whole world stood still.

On the other hand, whatever low sulphur volume is used for power gen (mainly Kuwait throughout the year and North Asia in winter) will not budge much either, especially when gas is not exactly in a position to save the day either. And don’t get me started on what is forecast to be a particularly strong year for El Nino.

What about the feedstock side? I admit I did struggle to properly interpret the signals coming out of feedstocks markets here for a bit.

Forward RFCC margins are strong but they are not at what would be called crisis level – in fact we have seen similar levels multiple times the last 5 years.

Initially, I thought this just reinforces my opinion that transport fuel markets are way too complacent here which I still believe is true to a good extent.

However, given that RFCC margin proxy is more of a signal for (low sulphur) resid destruction, perhaps the nuance here is that market is assuming much quicker and bigger demand destruction for transport fuels than for bunker which I do agree with. Perhaps that’s the thing keeping these margins from blowing up.

This becomes clearer looking at the incentive for something like Dar to go into complex kits in the Northeast (proxy for resid destruction) vs into simple kits in Southeast Asia (proxy for blending as flashed Dar is then used for blending). Market itself appears to be confused and can’t decide on where to send these barrels.

Side note, we heard Skikda LSSR last traded around ICE + 8.5, up from the +1.8 we were seeing previously.

On the other hand, forward 380 cracks are trading at pretty much the same levels we saw last summer! I’ll talk more about this in another piece.

Another interesting angle I thought of recently is the additional Russian HSSR molecules that can be placed legally into refining across Asia.

One way to think of it is in terms of blending ratio with light sweet crudes to mimic the medium sours. At a 20:80 blend ratio, an additional 500ktpm of HSSR that can be placed yields the equivalent of 600kbd of medium sour crude, and 1Mtpm would yield 1.2Mbd equivalent – normally these would be huge numbers but where we are today they are still drops in the ocean compared to the loss of medium-heavy sour volume.

And maybe none of that will even matter that much with these fresh attacks on the Russian Baltic ports where the majority of high sulphur exports come from.

All in all, I’m still a bit baffled by the complacency paper is showing just 3 months down the curve. I strongly believe we are way past the point where a quick satisfactory resolution is possible. This is the kind of conflict that will drag out for months, if not years. Complacency means we are not getting the right solvers in place when we need them – this will come back and bite us all.