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Last Updated: January 4, 2018
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Market Watch

Headline crude prices for the week beginning 1 January 2017 – Brent: US$67/b; WTI: US$60/b

  • A combination of political unrest and strong demand pushed WTI past the US$60/b level for the first time since mid-2015.
  • Ongoing unrest in Iran, triggered by domestic grievances and anti-government sentiment that was responded to by an authoritarian crackdown, added to a bullish trend that began mid-December.
  • Repairs on the Forties Pipeline System has been fully completed, restoring supply in Europe and reducing some tightness in the market.
  • However, an outage at Libya’s pipeline to the Es Sider terminal - reportedly caused by insurgent activity – raised concerns of supply disruptions, with some reports suggesting Libya output had dropped by almost 1 mmb/d.
  • As 2018 begins, there are divergent opinions on how crude prices will develop. Moody’s Investors Services expects a range of US$40-60 on resurgent shale production, both others including JP Morgan and some bullish hedge funds believe prices could hit US$80/b.
  • Data from the US EIA showed American oil production declining to 9.75 mmb/d from 9.79 mmb/d, as output slowed over the Christmas break; production is expected to increase in the coming weeks, with many predicting output to top 10 mmb/d within Q118.
  • US commercial crude storage level dipped last week by 4.6 million barrels, down some 20% from historic highs hit in March 2017.
  • Active US rig sites fell by a net two to 777 last week; oil rig numbers were unchanged, with two gas rigs closing. Nonetheless, the US rig count was up by 222 sites y-o-y, from 525 over the last week of 2016.
  • Saudi Aramco is reportedly on the lookout to acquire natural gas assets and supplies internationally, while also developing local output, in a bid to reduce the amount of crude burnt for power over summer. This could unlock more supplies for export progressively over the next few years.
  • Crude price outlook: Optimism seems to be the flavour for the week. Supply disruption have abated, but there is geopolitical risk in Iran while oil demand seems healthy. Prices should stay in the US$66-67/b range for Brent, while WTI may dip back below US$60/b as US supply recovers after the Christmas/New Year break.


Headlines of the week

Upstream

  • The US has opened up the remote Arctic National Wildlife Refuge area in Alaska to oil and gas drilling as part of the recent Congress tax reform bill.
  • In the wake of this, Eni began drilling a new well near Alaska’s Oliktok Point in the Beaufort Sea – potentially yielding output of 20,000 b/d – which is the first well to be drilled in offshore north Alaska since 2015.
  • Indonesia has received bids - including from Repsol, Mubadala and KrisEnergy - for five oil and gas blocks it offered up in 2017, after two consecutive years of no interest. The 22 blocks previously offered over 2015 and 2016 will be put up for bids again this month.
  • Wintershall has started production at the Maria field in Norway a year ahead of schedule, with recoverable reserves of some 180 million boe.
  • Statoil has announced a NK19 billion (US$2.26 billion) plan to extend output at the Snorre field by some 200 million barrels, beginning 2021.
  • A new oil field came online in the UK in the last week of 2018, as Premier Oil’s Catcher field capped off a resurgent year for the North Sea. Catcher has an initial rate of 10 kb/d, rising to 60 kb/d by mid-2018.

Downstream

  • China has issued its first batch of crude import quotas for 2018. A total 121.32 million tons (2.43 mmb/d) has granted to 44 companies, with ChemChina having the largest share at 333 kb/d. Many independent teapot refiners saw substantial increases in their allocation.

Natural Gas/LNG

  • Algeria’s Sonatrach has inked a deal with BP and Statoil to produce an additional 11 bcm of natural gas from its Tiguentourine gas field, which has a current output of some 9 bcm/y since it started in 2006.
  • Rosneft has asked Russia’s competition watchdog to allow it to bid on natural gas fields in the Yamalo-Nenets region placed on sale by diamond mining firm Alrosa, pitting Rosneft against Novatek for the assets.
  • Qatargas and Austria’s OMV has agreed on a long-term LNG contract, delivering some 1.1 mtpa annually for five years, beginning January 2018.
  • China will launch a natural gas exchange in Chongqing in Q118, hoping to create an international price benchmark by combining pipeline imports from Central Asia/Russia and LNG imports. Chongqing will join Shanghai, Tokyo and Singapore in the race to create an Asian gas benchmark.
  • Gazprom has signed an MoU with Iran that will see it participate in the Iran LNG project, which has an initial plan for two trains of 5.25 mtpa each and a second stage that will double capacity.

Corporate

  • The public listing of ADNOC’s fuel distribution unit has been a major success. From an IPO price of DR2.50, trading opened at DR2.90 and remains above the launch price. The listing raised some US$851 million.

Rosneft has unveiled a five-year plan aimed at increase its crude oil output to 5 mmb/d and natural gas to 200 bcm by 2022.

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High Oil Prices and Indonesia’s Ban on Oil Palm Exports

Supply chains are currently in crisis. They have been for a long time now, ever since the start of the Covid-19 pandemic reshaped the way the world works. Stressed shipping networks and operational blockages – coupled with China’s insistence on a Covid-zero policy – means that cargo tanker rates are at an all-time high and that there just aren’t enough of them. McDonalds and KFCs in Asia are running out of French fries to sell, not because there aren’t enough potatoes in Idaho, but because there aren’t enough ships to deliver them to Japan or to Singapore from Los Angeles. The war in Ukraine has placed a particular emphasis on food supply chains by disrupting global wheat and sunflower oil supply chains and kicking off distressingly high levels of food price inflation across North Africa, the Middle East and Asia. It was against this backdrop that Indonesia announced a complete ban on palm oil exports. That nuclear option shocked the markets, set off a potential new supply chain crisis and has particular implications on future of crude oil pricing and biofuels in Asia.  

A brief recap. Like most of Asia, Indonesia has been grappling with food price inflation as consequence of Covid-19. Like most of Asia, Indonesia has been attempting to control this through a combination of shielding its most vulnerable citizens through continued subsidies while attempting to optimise supply chains. Like most of Asia, Indonesia hasn’t been to control the market at all, because uncoordinated attempts across a wide spectrum of countries to achieve a similar level of individual protectionism is self-defeating.

Cooking oil is a major product of sensitive importance in Indonesia, and one that it is self-sufficient in as a result of its status as the world’s largest palm oil producer. So large is Indonesia in that regard that its excess palm oil production has been directed to increasingly higher biodiesel mandates, with a B40 mandate – diesel containing 40% of palm material – originally schedule for full implementation this year. But as palm oil prices started rising to all-time highs at the beginning of January, cooking oil started becoming scarcer in Indonesia. The government blamed hoarding and – wary of the Ramadan period and domestic unrest – implemented a Domestic Market Obligation on palm oil refineries, directing them to devote 20% of projected exports for domestic use. Increasingly stricter terms for the DMO continued over February and March, only for an abrupt U-turn in mid-March that removed the DMO completely. But as the war in Ukraine drove prices even further, Indonesia shocked the market by announcing an total ban on palm oil exports in late April. Chaotically, the ban was first clarified to be palm olein only (straight refining cooking oil), but then flip-flopped into a total ban of crude palm oil as well. Markets went haywire, prices jumped to historical highs and Indonesia’s trading partners reacted with alarm.

Joko Widodo has said that the ban will be indefinite until domestic cooking oil prices ‘moderate’. With the global situation as it is, ‘moderate’ is unlikely to be achieved until the end of 2022 at least, if ‘moderate’ is taken to be the previous level of palm oil prices – roughly half of current pricing. Logistically, Indonesia cannot hold out on the ban for more than two months. Only a third of Indonesia’s monthly palm oil production is consumed domestically; the rest is exported. An indefinite ban means that not only fill storage tanks up beyond capacity and estates forced to let fruit rot, but Indonesia will be missing out on crucial revenue from its crude palm oil export tax. Which is used to fund its biodiesel subsidies.

And that’s where the implications on oil come in. Indonesia’s ham-fisted attempt at protectionism has dire implications on biofuels policies in Asia. Palm oil prices within Indonesia might sink as long as surplus volumes can’t make it beyond the borders, but international palm oil prices will remain high as consuming countries pivot to producers like Malaysia, Thailand, Papua New Guinea, West Africa and Latin America. That in turn, threatens the biodiesel mandates in Thailand and Malaysia. The Thai government has already expressed concern over palm-led food price inflation and associated pressure on its (subsidised) biodiesel programme, launching efforts to mitigate the worst effects. Malaysia – which has a more direct approach to subsidised fuels – is also feeling the pinch. Thailand’s move to B10 and Malaysia’s move to B20 is now in jeopardy; in fact, Thailand has regressed its national mandate from B7 to B5. And the reason is that the differential between the bio- and the diesel portion of the biodiesel is now so disparate that subsidy regimes break down. It would be far cheaper – for the government, the tax-payers and consumers – to use straight diesel instead of biodiesel, as evidenced by Thailand’s reversal in mandates.

That, in turn, has implications on crude pricing. While OPEC+ is stubbornly sticking to its gentle approach to managing global crude supply, the stunning rebound in Asian demand has already kept the consumption side tight to match that supply. Crude prices above US$100/b are a recipe for demand destruction, and Asian economies have been preparing for this by looking at alternatives; biofuels for example. In the past four years, Indonesia has converted some of its oil refineries into biodiesel plants; in China, stricter crude import quotas are paving the way for China to clamp down on its status of a fuels exporter in favour of self-sustainability. But what happens when crude prices are high, but the prices of alternatives are higher? That is the case for palm oil now, where the gasoil-palm spread is now triple the previous average.

Part of this situation is due to market dynamics. Part of it is due to geopolitical effects. But part of it is also due to Indonesia’s knee-jerk reaction. Supply disruption at the level of a blanket ban is always seismic and kicks off a chain of unintended consequences; see the OPEC oil shocks of the 70s. Indonesia’s palm oil export ban is almost at that level. ‘Indefinite’ is a vague term and offers no consolation to markets looking for direction. Damage will be done, even if the ban lasts a month. But the longer it lasts – Indonesian general elections are due in February 2024 – the more serious the consequences could be. And the more the oil and refining industry in Asia will have to think about their preconceived notions of the future of oil in the region.

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Market Outlook:

  • Crude price trading range: Brent – US$110-1113/b, WTI – US$105-110/b
  • As the war in Ukraine becomes increasingly entrenched, the pressure on global crude prices as Russian energy exports remain curtailed; OPEC+ is offering little hope to consumers of displaced Russian crude, with no indication that it is ready to drastically increase supply beyond its current gentle approach
  • In the US, the so-called NOPEC bill is moving ahead, paving the way for the US to sue the OPEC+ group under antitrust rules for market manipulation, setting up a tense next few months as international geopolitics and trade relations are re-evaluated

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