LONDON Feb 13 Seasoned oil market
observers have struggled to find an adequate explanation for the
surge in Brent prices over the past fortnight, which has taken
front-month futures to the highest level since July 2011.
But the conundrum becomes easier to unravel if the focus is
switched from the overall crude supply-demand balance, which
remains comfortable, to balances for individual fuels
(especially distillates) and the types of crudes being impacted
by the supply disruptions.
Dieselisation and the increasing imbalance in the global
refining system (producing too much gasoline and not enough
diesel) has made the crude markets particularly vulnerable to
the loss of diesel-rich crudes, which is why both crude prices
and European gas oil futures have been rising in recent sessions
in response to the loss of exports from South Sudan.
Most analysis of the oil market still focuses on the overall
supply-demand balance, implicitly treating all crudes as
undifferentiated. But the price surges triggered by Libya and
North Sea outages in 2011, and now Sudan in 2012, illustrate the
need for a more fine-grained approach, in which relatively small
losses of key crudes (low in sulphur or rich in middle
distillates) can produce an outsized response in prices.
PAPER VERSUS PHYSICAL
There has been a strange disconnect between the financial
(paper) markets, which appear comfortably supplied, and reports
from traders of far greater tightness in the physical (crude)
markets, as my colleague Javier Blas explained in the Financial
Times last week ("Crude defies supply and demand forecasts", Feb
After months of ignoring escalating tensions with Iran, the
never-ending crisis in Europe, and first signs of a slowdown and
then recovery in the United States and China, crude futures have
been shaken out of their torpor by a series of apparently minor
Observers have blamed the transit dispute between Sudan and
South Sudan, as well as lingering problems in the North Sea, for
adversely affecting crude supplies.
Cold weather across Europe has signalled the belated arrival
of winter and focused attention on distillate supplies. And
signs of economic recovery and continued central bank stimulus
have rekindled appetite for risk assets.
But on a global scale these supply disruptions are small.
Current losses from South Sudan and the North Sea amount to
perhaps 350,000 barrels per day, which is tiny compared with the
1.3 million barrels per day of exports lost from Libya plus the
losses from the North Sea and Azerbaijan last year.
Cold weather will make only a small and temporary addition
to seasonal fuel consumption.
Economic news from the United States and China might have
improved recently, but the International Energy Agency (IEA) has
nonetheless cut its forecast for demand growth by 250,000 b/d to
just 800,000 b/d in 2012, less than 1 percent higher than 2011,
citing persistent economic weakness in Europe and worldwide
None of these developments seem significant enough to
justify the rise in oil prices to a six-month high.
DIESEL-RICH NILE BLEND
But not all crudes are the same. Libya's civil war had an
outsized impact on the oil market last year because the
low-sulphur crudes which the country exported were difficult for
refiners to replace elsewhere.
The main alternative supplies were in the North Sea,
Azerbaijan and Nigeria. Two of these areas were suffering
production problems of their own and the third is perennially
In the case of South Sudan, the amount of crude lost is
small in absolute terms (around 250,000 b/d), but the disruption
is still significant because Sudan's Nile Blend can be refined
to produce large quantities of valuable middle distillates like
diesel, and relatively little gasoline, which is in over-supply
and currently commands lower margins.
Simple distillation of Nile Blend yields relatively little
naphtha (10 percent) for gasoline production but plenty of
middle distillates like kerosene (9 percent) and gas oil (18
percent). It also yields unusually large amounts of residue (62
Residue would normally be undesirable. But in this case it
can be upgraded in a complex Asian refinery through fluid
catalytic cracking (FCC) and coking units optimised for diesel
production rather than gasoline to push final diesel yields
So the key characteristic of Nile Blend is not how much
residue it produces but how little naphtha it yields. South
Sudan's low sulphur waxy crudes are therefore ideal for
minimising (less economic) gasoline production and maximising
(highly profitable) diesel output.
Nile Blend is normally exported to customers in Asia.
Sudanese crude accounts for around 5 percent of all China's oil
The export interruption has sent Asian buyers scrambling for
diesel-rich replacements. Most crudes have substantially lower
yields of mid distillates so refineries have to process more
just to produce the same amount of diesel, tightening both the
distillate and crude markets still further.
(Editing by Jason Neely)