Opinion: ESAI sees FSU oil exports higher this winter

-- ESAI, Energy Security Analysis, Inc, is a Massachusetts-based energy consultancy. The opinions expressed are those of ESAI.--

Nov 3 - Exports from Russia, Kazakhstan and Azerbaijan to countries outside of the CIS will rise by about 300,000 b/d this winter from third quarter levels, according to ESAI's CISWatch, released late last week.

Almost half of this increase will result from the startup of the new ESPO pipeline in Eastern Russia. All signs indicate work toward the launch of the ESPO pipeline is on track and exports to Kozmino Bay will commence in December.

According to Transneft's loading schedule, Surgutneftegaz and TNK-BP will export from Kozmino Bay in the fourth quarter. Their export volumes will be concentrated in December.

While overland exports via the branch to China will not begin until 2011, deliveries of Russian crude to China by rail and via Kazakhstan (Atasu-Alashankou pipeline) have trended upward in recent months.

(For a graphic, click here )

This is the start of a long-term shift in FSU crude exports toward Asia. Higher refinery throughput in Russia after October, and the launch of the ESPO pipeline, will undermine Urals exports to Europe in the fourth quarter and early 2010.

Meanwhile light sweet crude exports from the Black Sea and Med have rebounded to over 1.7 million b/d after dipping to 1.62 million b/d in August. While outflows should exceed 1.7 million b/d in the fourth quarter, flows out of the Black Sea region will be undermined by imports to Ukraine.

FSU CRUDE AFFECTS PRICING AROUND WORLD

These developments suggest that Med Urals prices should be stronger this winter, narrowing the spread between Brent and Urals. ESAI believes, however, that the reduction in medium sour crude from Russia will be offset by month-on-month growth of medium sour supply from OPEC countries.

In addition, ESAI has projected that the bullish ride for fuel oil fundamentals would fade after September, and so far that is happening and should continue. The net impact for Urals values relative to Brent is bearish this winter and may actually widen the discount to Brent. Marginally less CPC and BTC light sweet crude entering the Med will also strengthen light sweet crude values this winter.

Looking further forward, however, the growing diversion of crude supplies to the East will generally strengthen Urals relative to Brent.

The start up of the ESPO pipeline is the beginning of Russia's growing influence on crude oil pricing in the Asia-Pacific market. Platts has already announced that it will provide a price assessment for ESPO oil exports from Kozmino Bay by December of this year.

As export volumes grow, ESPO Blend may become a regional benchmark (instead of being priced as a differential to Brent or Dubai). Russia wants the price to be set by market forces at the shipping point in Kozmino Bay. Moreover, at Russia's insistence the price of eventual exports via the branch pipeline to China will be determined by a formula linked to the ESPO Blend price at Kozmino Bay.

Since buyers in the Pacific Basin wish to see the establishment of a price benchmark that is an alternative to Dubai, they have already indicated their support for the creation of a spot market for ESPO Blend. Even so, the viability of ESPO as a credible benchmark in the region will hinge on the reliability of flows to Kozmino Bay. If Russia directly or indirectly influences the price by withholding crude, buyers may not support any assessment that is not a clear cut tie to Brent.

If the ESPO Blend benchmark is successful, it could reshape light sweet crude pricing in the region because it represents a light sweet crude oil and the volumes will grow significantly. As such, ESPO could provide an alternative to Brent in the region. This could also affect the pricing of Dubai, which is based on a differential to Brent.

(To contact ESAI go to www.esai@com or contact skanlier@esai.com)