Year-end European rally… can it be sustained?

Happy New Year Everyone and best of luck for 2023!

And what a way to start the year!

On December 13, 2022 we warned our customers that ARA was now the cheapest source of supply into AG and simultaneously those grades were using up to 40-50% of E5 in the blend. If those arbs materialised, we could see a significant pickup in finished grade demand (E5 and E10).

Since that assessment we have now seen as many as 10 LR1 and LR2 on subs from ARA to AG/Red Sea and East Africa. At least 3 have now been fixed and 2 others remain on subs. All loading Early Jan. If final destination is Saudi or Iraq, that could mean up to 120KT of E5 demand. On the contrary if final destination is Mombasa that will mean up to 120KT of Reformate. Something to keep an eye on, as the former has a greater impact on prompt spreads whereas the latter has a higher implication on summer spreads.

Simultaneously, Arbs from ARA to NY, that were completely shut mid-December, became open to both refiners and traders. Mainly on the back of a gas nap rally (from $57/MT all the way up to $157.5/MT) but also driven by the TC2 late sell-off before Christmas (dropping by 130 WS since early dec to currently at 260 WS).

If that wasn’t enough, Pembroke refinery strike, the year-end lack of market liquidity and high WAF demand (mainly on the back of low flat prices) created the perfect storm for ARA: Jan/Dec spreads swiftly moved from a bearish $5.5/MT contango to now trading up to $12/MT Backwardation. As Mentioned Gas Naphtha gained almost $100/MT and EW dropped by $3/bbl from +1 to -2.

Big question is what happens next?

Now that market participants are back and liquidity picks up, will this be a short termed rally or does it have legs?

Looking at the demand side in the US, we can see that USGC is still weak with positive blending margins for both traders and refiners on domestic grades. GC is also the cheapest source of supply in the Atlantic except for Brazil and WAF. Arbs to NY are also weakening and are now only opened for refiners. On top of that RBOB still trading in contango. US is therefore not showing any significant bullish signals that could help sustain the European rally on the western front. 

On the eastern front, with EW dropping by $3/bbl, all arbs are now from ARA shut by $3-4/bbl and those shorts should be supplied by AG barrels again. All will depend on traders flexibility to unwind hedges and on their trading agenda. In any case, if the European bullishness persists throughout Jan, we could see a reversal in February given the shortage of new outlets from here. 

That being said, this is normally the time when ARA builds stocks for summer and the weak contango market only lasted for 15 days. Any big drop in summer spreads could be seen as a buying opportunity.

On the freight side, TC2 should find some support here with recent UMS fixtures to both USAC but also SAF and Brazil, particularly after such a dramatic fall in December.

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Felipe Elink Shuurman 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.

Sparta is a live, pre trade analytics platform that enables oil traders, refiners, banks, hedge funds and wholesalers to have access to real-time and global actionable insights to capture market opportunities before others.

To find out how Sparta can allow you to make smarter trading decisions, faster, contact us for a demonstration at sales@spartacommodites.com