Atlantic basin gasoline exports support European refining margins
While motorists in the UK and Europe have seen retail fuel prices slide as crude has fallen, changing fundamentals in oil products markets have meant the falls have not been as sharp as crude’s – yet, at any rate – and this has been reflected recently in high refinery margins and healthy downstream profits in Europe. This is especially true for gasoline, which is now more expensive than diesel again across the whole continent, for the first time in 14 years, supported by strong Atlantic basin exports. The premium looks here to stay for the immediate future, returning gasoline to the top of the refinery cut in terms of value – a position it enjoyed for many years before 2001 – and providing some support for refinery margins into the autumn.
Gasoline demand worldwide has responded to lower crude-led prices by rising sharply since the fourth quarter last year. With Europe the only global region with a gasoline surplus, this has driven up exports, as well as helping support local consumption. About 30% of European refinery gasoline production is exported on a net basis, with strong trade links particularly with the eastern US, and other Atlantic Basin markets such as West Africa.
The North American gasoline market has been responding particularly strongly to lower prices. During the period of November 2014 to May 2015, demand in the US rose 5.2% compared to the same period in the previous year. On top of this, Mexico is experiencing an increasing production shortfall, partly due to extensive refinery maintenance, which has drawn in imports and further tightened US Gulf Coast markets. Earlier in the year, monthly exports from Europe to Nigeria were at times twice the levels of last year, at up to 330,000 b/d, although these have now returned to nearer normal levels, according to Argus Media.
In Europe itself there has been less support, with the International Energy Agency showing a slight decline in gasoline demand so far this year, to 1.91 million b/d in May from 1.93 last year, largely due to falls in the UK, where drivers continue to switch to diesel – although rises of above 3% are being seen this summer in France and Italy.
“Although European pump prices are some 20 to 25% lower now than before the end of last year, the effect on demand trends is minor compared with what we have seen in the United States this year,” said Damian Kennaby, director, Oil Markets and Downstream Services at IHS Energy. If prices had not fallen, however, European demand would probably be negative in line with the underlying steady decline seen over recent years.
European diesel demand, on the other hand, is up slightly this year, according to the IEA. But refiners have few diesel export opportunities and are facing substantial and growing inflows from the Middle East, North Africa and Russia. Most European refineries are configured to maximise diesel output, but in the UK, refineries are configured to produce mostly gasoline, leaving them well placed to meet the export demand as domestic demand continues to fall (down 5.1% in June compared to a year earlier, according to the IEA). Half of UK cars are now diesel compared to just 10% 15 years ago, pushing the UK’s reliance on diesel imports to over 40%.
The wholesale market price reversal is already being reflected at the pump, with the average cost of a litre of diesel in the UK having fallen to EUR1.53 at the end of August, compared with EUR1.55 for gasoline, according to figures from the European Commission (see table for other countries). Elsewhere in Europe the gasoline premium is higher, reflecting local availability and taxes. Overall, the UK has the highest retail prices in Europe due to relatively high taxes.
Source: 27th August, European Commission (includes taxes). http://ec.europa.eu/energy/index_en.htm
Widening gasoline spreads
The strong gasoline demand has meant European gasoline spreads, or gasoline prices relative to crude, have risen steadily in 2015, reaching average monthly highs not seen since May 2007. CIF (delivered) Northwest European spreads over Dated Brent have risen from typical levels of $13 -$15/bl, to monthly averages of more than $24/bl, while daily averages have at times exceeded $33/bl.
“This year, we have seen the highest European gasoline spreads in eight years… We have also observed that gasoline spreads in both Northwest Europe and the Mediterranean have been increasing steadily, but strongly, since December 2014,” said IHS Energy’s Mr Kennaby.
The strong demand has allowed high refinery operating levels – at around 86% of capacity this year – without undermining European refinery margins, which have recovered to levels last reached in September 2012 – marking a significant rebound from the persistent lows of 2013 and 2014.
The gasoline crack spread usually reaches a maximum in the second quarter of the year due to more stringent and expensive summer gasoline specifications in some regions, combined with an increase in demand as the traditional US driving season gets underway. But this year the additional export demand is keeping markets tighter into the autumn.
Looking ahead, Argus said the export demand combined with a raft of refinery closures and shut-ins across Europe over recent years may now be sufficient to support gasoline margins nearer current levels for some time to come. Longer term support may come from strong demand in China, and India – where gasoline growth is currently averaging a staggering 18% per year.
In the immediate future however, IHS Energy expects gasoline spreads to peak by the beginning of the third quarter and then decline seasonally as summer driving comes to an end. It said European prices would remain heavily dependent on the supply and demand balances across the Atlantic basin, and could be influenced by any impact on Caribbean production from the Hurricane season.
For diesel the outlook is more bearish, with higher imports from Russia, the US and Middle East anticipated, and stocks already at high levels. Moreover, stronger demand for gasoline globally has led refineries around the world to increase throughput in recent months, creating a surplus of diesel as a by-product, while big middle distillate importers like China have seen a slump in demand.
There are limits on refiners’ ability to vary the proportion of each product from any particular crude they process. But refiners can go for lighter, more gasoline-rich crudes to boost gasoline output. So the state of refined products markets could lead to widening light, sweet grade premiums in the crude markets, relative to heavier grades, as refiners seek them out to increase gasoline yields.