Chinese Refiners Will Pressure Middle East

Freedom Financial Archive | Originally posted Jan 19, 2023
  • Can crude and refined oil play musical chairs?
  • As China’s refineries work overtime, the Middle East OGs feel the pressure.
  • Why aren’t OPEC+ members producing to their quotas?
  • And what’s that doing to the price of crude?

What’s the Kingdom’s Game?

Saudi Arabia officially came out and reduced their OSPs (official selling prices) in line with our expectations, except when it comes to the U.S.

We were expecting to see cuts across the board, especially in the U.S.

The U.S. needs heavier barrels, and a reduction in OSPs would have enabled some additional buying.

Instead, Saudi cut rates going into Europe and Asia where they face competition coming from multiple fronts.

In Asia, Russian Urals and ESPO (Eastern Siberia–Pacific Ocean) barrels remain well below market rates, which will impact the purchase of lighter barrels. But we expect to see a steady increase of heavy crude purchases.

Many refiners have been running a lighter crude, but as distillate margins remain elevated vs gasoline- refiners will look to make the crude a bit heavier.

Saudi cut heavy crude OSPs into Asia by a sizeable amount, which will help flows into the region.

It will also provide support to Asian refinery margins, because typically any OSP discount goes straight to the refiner’s margin.

Refiners outside of China are going to need support as Chinese assets ramp up and take advantage of the new export quotas.

The Chinese government has issued around 18.99 million mt (151 million barrels) of export quotas for clean oil products and 8 million mt (50.8 million barrels) for fuel oil in its first batch for 2023, several sources with knowledge of the matter told S&P Global Commodity Insights Jan. 3. The clean product quotas for exporting gasoline, gasoil and jet fuel are higher by 46% from 13 million mt issued in the same batch for 2022 with Sinopec as the top quota holder as usual. Overall, the total allocation in 2022 was 37.25 million mt.

As this product flows into the market, it will put pressure on refiners in Asia. This could cause economic run cuts.

The distillate crack will be the one to watch because it’s the key driver to how hard the refiners will run.

Given the refined product storage situation and Chinese exports, refiners will benefit from switching to a heavier crude.

KSA (The Kingdom of Saudi Arabia) cutting heavy crude more into Asia will help support purchases of a heavier crude.

Even as KSA gets more aggressive with the cuts on light crude into Asia, Med, and Europe, it will be difficult for them to compete against Russian flows into Asia.

We have also seen an increase of flows of CPC (Caspian Petroleum Consortium – Kazakhstan) into the European markets, increases in Norway, and Libya steady at over 1 million barrels a day.

Even with the cut, U.S. crudes are still very competitive which will limit demand into the European theater.

Urals averaged just over $50 last month, which is still well below what KSA is offering and will limit the number of flows to just term contracts.

On the heavy side, they cut far enough to see additional flows into Asia and some into Europe as refiners go heavier into peak winter runs.

The below charts will give you a sense of where the cuts are vs historical data.

 Middle East Arab Light Crude Saudi to Asia OSP Spread vs Average Oman/Dubai FOB 

Middle East Arab Heavy Crude Saudi to Asia OSP Spread vs Average Oman/Dubai FOB

The above shows the steepness in the cuts against the last 10 years, and you can see the difference between light and heavy.

The same can be said when looking at the European splits.

Middle East Arab Heavy Crude Saudi Arabia to NWE vs BWAVE Spread

The problem with the KSA strategy is ignoring the U.S. markets.

There is no need to compete on the light end into the U.S. But by keeping heavy spreads so elevated into the U.S., you stop all flows heading into a key market.

The limitations of flows into Europe and Asia on the light and even medium side will keep floating storage elevated in the Middle East.

The below chart puts into perspective how rich KSA is into the U.S.

Middle East Arab Heavy Crude Saudi Arabia to US vs ASCI Spread

Even with the cuts by KSA on the light side into Europe and the Mediterranean, we don’t see that impacting U.S. crude exports.

The cut on the light side into Asia will reduce purchases from the U.S. But the demand from Europe will be enough to keep us at about 3.7M-3.8M barrels a day into the market.

India, South Korea, and Japan have been decent-sized buyers of U.S. crude, and the cut by KSA will help close that arbitrage.

SK and Japan aren’t buyers of Russian Urals or ESPO, so the cut by KSA will move crude into those markets while India and China remain buyers of Russian crude.

The below chart puts into perspective just how elevated floating storage is to kick off the new year. We don’t see a huge shift in the near term of the storage situation, which will be important to watch for future OSP cuts.


OPEC flows rose slightly in December versus November driven by West Africa.

Nigeria was the biggest driver of the bump, but these numbers are still well below OPEC quotas.

This just means that any OPEC+ cut would be in name only because they are still over 1.5 million barrels a day below allotments.

A large part of that is driven by Russia and West Africa, which is also helping to keep a floor in crude futures.

If OPEC+ was actually producing at quotas given the economic backdrop, crude prices would be about $10 lower.

As we progress through January, we don’t see a big shift above the Dec numbers.

Based on the tanker tracking data, we see things fairly stable with a potential bump of about 100,000 barrels a day.

So, in a market with demand of around 100 million, you are looking at a rounding error.

Saudi December exports were stable as well, and we don’t see a huge change in January. There could be a bigger bump in February following the reduction of OSPs.

Floating Storage in Transit

There still remains a huge amount of crude sitting in the water between in-transit and floating storage, which see persisting throughout 2023. The Russian sanctions will put more crude on the water and for longer periods of time (miles per ton) as flows head east instead of west.

Russian flows slowed down into year-end as many off takers were already saturated with Urals and ESPO. We see additional purchases picking up in January and February, which will keep Russian flows fairly stable throughout Q1.

Russia continues to send volumes into the Asian markets pre-emptively as well as trying to disguise the end buyer. There has been an increase of unknown buyers as volumes move into Asia ahead of buyers and to help protect some identities.

Supertankers into China slowed into year-end but that was after a big surge in buying that kicked off in October and lasted into the beginning of December.

This put much more crude in floating storage and provides a cushion for China as activity picks up following the end of lockdowns.

We still believe that China underwhelms on internal demand given the economic backdrop, but it will still provide some relief in the near term.

China Supertanker Crude Imports


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