OGJ Senior Writer
Although it’s difficult to assess precisely how much crude and distillate fuel are now held in floating storage around the globe, the associated risk is increasing significantly, said Olivier Jakob at Petromatrix, Zug, Switzerland.
It “used to be that in a period of low demand, refineries would run until the onshore stocks would be filled up, then the contango would pressure the refinery margins, which would then limit refinery production until stocks start to draw. However, the total collapse in trade following the credit crisis at the end of 2008 and the zero interest rate policy of the US Federal Reserve has brought an additional and almost indefinite level of storage tanks through the use of ships as floating stocks. This means that refineries have been producing way over what should have been the balancing economics,” Jakob said.
The International Energy Agency estimated 60 million bbl of oil and 80 million bbl of distillates were in floating storage at the end of October. The Organization of Petroleum Exporting Countries put the numbers at 40 million bbl of crude and 90 million bbl of distillates. ICAP Shipping International Ltd. projected 90 million bbl of distillates would be in floating storage by the end of November, growing to 97 million bbl in December—a fivefold increase in floating distillate stocks within 9 months, said Jakob.
“If the current rate of increase in distillate floating stocks continues, we would have at the end of March 2010 more distillate stocks on water then we had in March 2008 in the total onshore US,” he said.
At a 40% processing yield, it took 250 million bbl of crude to produce the 100 million bbl of distillates that went into floating storage this year, said Jakob. Add 50 million bbl of crude in floating storage, “and that makes…300 million bbl of crude oil equivalent that will come back to the market in the short to medium term,” Jakob said. “On an annualized basis, this amounts to about 800,000 b/d.”
Coincidentally, OPEC expects world demand for crude to increase by 800,000 b/d 2010. That could be satisfied by the drawdown of floating inventories, which “would leave onshore stocks basically unchanged from the current record highs, while the supply and demand equation will still have to deal with some increase in non-OPEC and noncore OPEC crude production,” Jakob predicted.
In a move little noticed by most oil market observers, the benchmark US light, sweet crudes contract for delivery in December 2017 briefly traded at $100.24/bbl on Nov. 18 before closing at $99.66/bbl on the New York Mercantile Exchange.
“That is the first time this year that any part of the on-exchange curve has traded above $100/bbl,” said Paul Horsnell, managing director and head of commodities research at Barclays Capital in London. “Indeed, it is the first time since the start of October 2008 that has happened. A small event in itself, but symbolic nonetheless. The ledger will show that oil did trade above $100 in 2009, albeit that it took until November to happen and occurred right at the back end of the exchange-traded curve.”
Moreover, Horsnell said, the December 2017 contract “has been loaded with more symbolism than you could shake a Dan Brown novel at.” Brown is the author of The DaVinci Code and Angels & Demons, mysteries in which the protagonists follow obscure clues involving religious symbols. Example: the crude contract for that month never fell below $70/bbl, not even on Feb. 18 when the front-month March contract dropped to $34.62/bbl on NYMEX.
“The contract has spent the past 4 weeks between $95 and $100/bbl and has averaged just over $86/bbl for the year to date,” Horsnell reported Nov. 18. “In other words, the closest thing the formal oil exchanges have for a proxy for the long-term sustainable price of oil never fell below $70 even when the consensus expected a severe multiyear economic discontinuity. Further, it has averaged $86/bbl in the depths of a recession, and has returned to $100 when the economic weakness proved to be more of a short-term shock than a multiyear trauma.”
Meanwhile, he said, “The front of the curve has remained severely range bound. In our view, $70/bbl is now looking like the minimum sustainable price that would not severely depress long-term investment, and moves below that level would threaten to intensify the expected supply tightness that has kept the back of the curve so well supported.”
(Online Nov. 30, 2009; author’s e-mail: email@example.com)