SINGAPORE (Reuters) - Middle East sour crude could extend this year’s rally to reach an unprecedented parity with gasoline-rich sweet grades in coming months, as the world’s biggest new refinery in a decade fires up its furnaces.
Indian Reliance’s 580,000 barrels per day plant, formally commissioned on December 25 in time to meet a year-end target, enters a global oil market that has turned upside down since it was launched in mid-2005 amid a global refining capacity squeeze and as OPEC pumped every barrel it could.
Now, instead of hoovering up discounted, surplus heavy-sour crude from OPEC, Reliance may be chasing fewer barrels as the cartel cuts output by record volumes in a bid to cope with shrinking demand and put a floor under prices that have fallen more than $100 since July.
The discount for benchmark sour Dubai crude to light, sweet Brent — which stood at $5.90 in June — has already rallied to $1.20 a barrel, near the more than eight-year high of 80 cents hit in August.
The discount had widened to nearly $10 a barrel in late 2004, as OPEC struggled to tame the early stage of oil’s rally by pushing even more of the dense, high-sulfur crude at refiners who did not have the capacity to process those lower-value grades into the high-end diesel and gasoline that consumers demanded.
Now the tide has changed, with OPEC throttling back supplies just as refiners commission sophisticated new kit that will allow them to convert the bottom end of the barrel into top-notch fuels. Taking the lead is Reliance, whose refinery is the most complex of its size and will not produce a drop of residual fuel.
With OPEC’s cuts affecting the group’s cheaper, high-sulfur crudes more than its coveted lighter, cleaner grades, more gains are possible, even before Reliance gets in full swing.
“It could flip to a premium, depending on how much OPEC implements,” one crude oil trader based in Singapore said.
The new $6 billion export-oriented refinery, operated by subsidiary Reliance Petroleum, sits alongside the company’s 660,000-bpd plant built a decade ago in Jamnagar.
On its own, the new plant is the world’s sixth-largest refinery; taken together the complex on India’s west coast is the world’s largest.
While crude traders are bracing for more volatility in spreads, the greater impact is likely to be felt on profit margins for global refiners forced to compete with Reliance’s low cost and high efficiency, once large-scale exports commence from April, when it can take full advantage of a tax break.
“The effect on crude spreads may be limited, but it will hammer product markets for sure,” said another trader.
One of the most important factors to consider may be Chevron, which analysts say is unlikely to take up an option to raise its 5 percent stake in subsidiary Reliance Petroleum to a full 29 percent next year, potentially scuppering an apparent deal to absorb some of the oil major’s heaviest crudes.
Al Troner, managing director of Asia Pacific Energy Consulting, said Chevron had earmarked a chunk of its rising production of heavy, sour, high-metal crude in the Neutral Zone between Saudi Arabia and Kuwait for Jamnagar. It sealed a 30-year extension on those operations in September.
“The combination of Reliance having to look for replacement Middle East Gulf heavy sour, plus the OPEC cutbacks, plus (further down the road) some further domestic refining use of similar crude production could tighten heavy/sour avails substantially and keep the delta tight,” he said.
Because of its size — about equivalent to output from a medium-sized Saudi oilfield - Reliance’s early buying has the critical mass to influence the physical market and its early buying has already boosted differentials of Middle East crude.
“Reliance has already bought a number of heavier Middle East crude grades for February like Qatar Marine and Umm Shaif at a premium — yes a premium,” said a crude trader in Singapore.
“It’s OPEC and Reliance lifting the market.”
While boosting demand for one type of crude, the new plant will also flood global markets with supplies of ultra low-sulfur motor fuels. This is in turn will depress demand for low-sulfur, light crudes from Nigeria and the North Sea — potentially upending the normal price spreads.
Analysts estimate the new plant — with a Nelson Complexity rating of 14 — will run on crude with API in the low to mid 20s, much heavier than the current global average production slate.
So far, Reliance has kept silent on which grades it will buy. But it looks likely to be mainly OPEC crude, including a healthy volume from Saudi Arabia, traders have said.
To be sure, new supplies of heavy crude will become available to meet the increased demand and may dampen the surge of heavy grades’ differentials. The Neutral Zone is one such source, others will come from Brazil and Saudi Arabia as well.
“Ceteris paribus, this new buying interest would narrow the spread, but there are some new sources of heavy crude, too,” said Sarah Emerson, director of Energy Security Analysis Inc.
And although it remains to be seen whether all of OPEC’s members fully implement their share of the 4.2 million bpd cuts agreed since September, those producing some of the heaviest grades have taken the most visible steps — Saudi Arabia and the UAE have both informed refiners of significant cuts.
Editing by Jonathan Leff and Ramthan Hussain