Is it now a Western problem or current E/W downtrend running out of room?

Commentary summary:

• E/W spread has corrected by more than $40/mt since the April 8 ceasefire; the bulk of the conflict premium has already been removed.
• China’s state-owned refiners will resume product exports in May, compounding bearish pressure on E/W.
• The emergency that drove March’s pricing has partially stabilized, but at the cost of depleted national reserves.
• Despite the sharp E/W correction, the spread should find a floor and recover later in 2H June if Hormuz remains closed, and Western inventories continue to draw at the current pace, forcing arb margins wider to keep Asia supplied.

While May/June timespreads in Asia and Europe trade $60/mt and $70/mt above pre-conflict levels, the E/W spread collapse since the ceasefire began (April 8) has already exceeded $40/mt of correction.

Persistent demand destruction in the East (with Long Son petrochemical complex set to shut down in mid-May) is compounded by rising runs in some Asian economies. Japan’s PAJ data also shows refinery intake inching up, with South Korean runs also expected to tick higher in May following successful crude procurement from the West and government SPR draws, the first tentative signs that the feedstock emergency that drove March’s pricing has partially stabilised, albeit at the cost of depleted national reserves.

In the same direction, Asian premiums continue to weaken, now far from the $150/mt peak reached at the start of the conflict and settling around $80/mt for 1H June deliveries into Japan.

Following the severe correction in cash differentials and the E/W spread, European alternatives show significantly negative margins for arbitrage into Asia. The US route remains viable, though the market appears locked in a wait-and-see posture, minimizing imports from the West and awaiting potential conflict resolution.

But the inventory cost of that stabilisation is now becoming visible in the data. US total crude and product stocks drew nearly 25 million barrels last week. At that pace western prices need to defend their own markets, closing off the incremental arbs that have been the primary mechanism keeping Asian and European markets supplied.

On the heavy naphtha side, EU-to-US arbitrage worked briefly last week according to our spread calculator. However, the recent downtrend in US ex-plant prices has weighed on this margin.

Uncertainty has recently increased amid sharp rallies in flat prices and timespreads alongside severe E/W and cash diffs corrections. While an increase in China exports for May keep being bearish for both, if the Strait of Hormuz remains closed, the 2H June balance could expose the need to widen arbitrage margins, helping E/W to find a bottom to the current downtrend.