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Last Updated: March 15, 2018
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Market Watch

Headline crude prices for the week beginning 12 March 2017 – Brent: US$64/b; WTI: US$61/b

  • Crude prices started on a weaker note, after a see-saw week of trading last week, as indications pointed to American shale output swelling.
  • With OPEC’s efforts already in place and the beginnings of a pullback in June expected by the market, attention has been focused on the current swing factor – American crude production.
  • Output from major US shale regions is expected to continue strong gains. This would help stabilise, perhaps increase, crude stockpiles in Cushing, Oklahoma, which have declined consistently since the start of 2018.
  • The EIA expects output from American shale regions to reach 6.95 mmb/d in April, a gain of 131,000 b/d, with the Permian alone contributing a gain of 80,000 b/d.
  • US jobs data showed a healthy increase in oil and gas sector employment, up 1,100 in February, an acceleration after steady gains last year.
  • Oil rigs in the US fell for the first time in six weeks, dropping four sites in response to the recent sapping of crude price strength. Gains of seven gas sites still led to an overall gain, with the total active rig count at 984.
  • All this points to American crude output exceeding expectations in output terms; within OPEC, Iran is lobbying to keep oil prices at US$60, fearing that a US$70/b target will only encourage additional US shale output.
  • Crude price outlook: The continued ascent of American shale production will keep price momentum depressed, with Brent likely to trend towards US$63-64/b and WTI at US$60-61/b.

Headlines of the week

Upstream

  • Eni has acquired a 40-year stake in the two major offshore concessions in Abu Dhabi for US$875 million. In return, Eni receives a 5% stake in the Lower Zakum oil fields and a 10% in the oil, condensate and gas fields of Umm Shaif and Nasr. ADNOC will continue to hold a 60% stake in both.
  • Saudi Arabia is scheduled to join the shale revolution by end March, as shale production at the North Arabia basin, said to rival Eagle Ford in Texas, begins. Drilling at the South Ghawar and Jafurah basins is also underway, as Aramco plans a US$300 billion ten-year spending spree.
  • Encouraged by recent discoveries in Guyana, the Dominican Republic will be offering two onshore oil and two offshore gas blocks by the end of March, attracting the attention of BP and ExxonMobil.
  • Petronas has struck oil at the Boudji-1 well in Gabon’s offshore Block F14, an ultra-deepwater field with encouraging ‘high quality’ deposits.
  • Premier Oil’s Catcher field – the most recent field to start up in the North Sea – will reach its projected 60,000 b/d target ahead of plan, by 1H18.
  • Shell will be selling out of the ageing Draugen field in Norway, along with stakes in smaller fields, including Gjoa, Kvitebjorn, Valeman and Sindre.

Downstream

  • Petronas will be upgrading its ageing Kerteh refinery by 2022, to expand its crude diet beyond the local light sweet Tapis crude, as well expand capacity to meet Euro V standards and deepen petrochemical linkages.
  • Petrobras will be investing some US$42 million to upgrade its Presidente Bernardes refinery near Sao Paulo to improve efficiency.
  • Vietnam has pulled the plug on the planned US$3.2 billion 160 kb/d Phu Yen refinery, revoking the investment licence granted to UK-based Technostar Management and Russia’s Telloil Group.
  • Sinopec appears to have prevailed over Glencore in pursuit of Chevron’s downstream assets in South Africa and Botswana, as South Africa’s Competition Tribunal approved its US$900 million purchase, subject to an additional investment of US$504 million over the next five years.
  • Saudi Aramco and SABIC have appointed Wood to develop its planned crude-to-chemicals complex in Saudi Arabia, which would be the world’s largest with a capacity of 400 kb/d and 9 mtpa of petrochemicals.
  • Not to be outdone, ADNOC announced plans to build the world’s largest integrated refining and chemicals site in Ruwais, doubling its crude capacity and tripling its petrochemicals capacity, rivalling Jamnagar.

Natural Gas/LNG

  • Petronas has inked a 13-year contract with Tokyo Gas, supplying some 500,000 tons of LNG per year to its long-term customer beginning April 2018, which could rise to 900,000 tons per year after seven years.
  • In another blow to Canadian Pacific coast LNG, Australia’s Woodside has dropped plans to develop its Grassy Point project, choosing instead to focus on the Kitimat LNG project with partner Chevron.
  • Ophir Energy expects first gas from its Fortuna project in Equatorial Guinea by 2022, with FID expected by the end of 2018.
  • Trial operations have begun at Ichthys in Australia, with Inpex sticking to its end-March target date despite rumours of more delays.

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Saudi Aramco Moves Into Russia’s Backyard

International expansions for Saudi Aramco – the largest oil company in the world – are not uncommon. But up to this point, those expansions have followed a certain logic: to create entrenched demand for Saudi crude in the world’s largest consuming markets. But Saudi champion’s latest expansion move defies, or perhaps, changes that logic, as Aramco returns to Europe. And not just any part of Europe, but Eastern Europe – an area of the world dominated by Russia – as Saudi Aramco acquires downstream assets from Poland’s PKN Orlen and signs quite a significant crude supply deal. How is this important? Let us examine.

First, the deal itself and its history. As part of the current Polish government’s plan to strengthen its national ‘crown jewels’ in line with its more nationalistic stance, state energy firm PKN Orlen announced plans to purchase its fellow Polish rival (and also state-owned) Grupa Lotos. The outright purchase fell afoul of EU anti-competition rules, which meant that PKN Orlen had to divest some Lotos assets in order to win approval of the deal. Some of the Lotos assets – including 417 fuel stations – are being sold to Hungary’s MOL, which will also sign a long-term fuel supply agreement with PKN Orlen for the newly-acquired sites, while PKN Orlen will gain fuel retail assets in Hungary and Slovakia as part of the deal. But, more interestingly, PKN Orlen has chosen to sell a 30% stake in the Lotos Gdansk refinery in Poland (with a crude processing capacity of 210,000 bd) to Saudi Aramco, alongside a stake in a fuel logistic subsidiary and jet fuel joint venture supply arrangement between Lotos and BP. In return, PKN Orlen will also sign a long-term contract to purchase between 200,000-337,000 b/d of crude from Aramco, which is an addition to the current contract for 100,000 b/d of Saudi crude that already exists. At a maximum, that figure will cover more than half of Poland’s crude oil requirements, but PKN Orlen has also said that it plans to direct some of that new supply to several of its other refineries elsewhere in Lithuania and the Czech Republic.

For Saudi Aramco, this is very interesting. While Aramco has always been a presence in Europe as a major crude supplier, its expansion plans over the past decade have been focused elsewhere. In the US, where it acquired full ownership of the Motiva joint venture from Shell in 2017. In doing so, it acquired control of Port Arthur, the largest refinery in North America, and has been on a petrochemicals-focused expansion since. In Asia, where Aramco has been busy creating significant nodes for its crude – in China, in India and in Malaysia (to serve the Southeast Asia and facilitate trade). And at home, where the focus has on expanding refining and petrochemical capacity, and strengthen its natural gas position. So this expansion in Europe – a mature market with a low ceiling for growth, even in Eastern Europe, is interesting. Why Poland, and not East or southern Africa? The answer seems fairly obvious: Russia.

The current era of relatively peaceful cooperation between Saudi Arabia and Russia in the oil sphere is recent. Very recent. It was not too long ago that Saudi Arabia and Russia were locked in a crude price war, which had devastating consequences, and ultimately led to the détente through OPEC+ that presaged an unprecedented supply control deal. That was through necessity, as the world faced the far ranging impact of the Covid-19 pandemic. But remove that lens of cooperation, and Saudi Arabia and Russia are actual rivals. With the current supply easing strategy through OPEC+ gradually coming to an end, this could remove the need for the that club (by say 2H 2022). And with Russia not being part of OPEC itself – where Saudi Arabia is the kingpin – cooperation is no longer necessary once the world returns to normality.

So the Polish deal is canny. In a statement, Aramco stated that ‘the investments will widen (our) presence in the European downstream sector and further expand (our) crude imports into Poland, which aligns with PKN Orlen’s strategy of diversifying its energy supplies’. Which hints at the other geopolitical aspect in play. Europe’s major reliance on Russia for its crude and natural gas has been a minefield – see the recent price chaos in the European natural gas markets – and countries that were formally under the Soviet sphere of influence have been trying to wean themselves off reliance from a politically unpredictable neighbour. Poland’s current disillusion with EU membership (at least from the ruling party) are well-documented, but its entanglement with Russia is existential. The Cold War is not more than 30 years gone.

For Saudi Aramco, the move aligns with its desire to optimise export sales from its Red Sea-facing terminals Yanbu, Jeddah, Shuqaiq and Rabigh, which have closer access to Europe through the Suez Canal. It is for the same reason that Aramco’s trading subsidiary ATC recently signed a deal with German refiner/trader Klesch Group for a 3-year supply of 110,000 b/d crude. It would seem that Saudi Arabia is anticipating an eventual end to the OPEC+ era of cooperative and a return to rivalry. And in a rivalry, that means having to make power moves. The PKN Orlen deal is a power move, since it brings Aramco squarely in Russia’s backyard, directly displacing Russian market share. Not just in Poland, but in other markets as well. And with a geopolitical situation that is fragile – see the recent tensions about Russian military build-up at the Ukrainian borders – that plays into Aramco’s hands. European sales make up only a fraction of the daily flotilla of Saudi crude to enters international markets, but even though European consumption is in structural decline, there are still volumes required.

How will Russia react? Politically, it is on the backfoot, but its entrenched positions in Europe allows it to hold plenty of sway. European reservations about the Putin administration and climate change goals do not detract from commercial reality that Europe needs energy now. The debate of the Nord Stream 2 pipeline is proof of that. Russian crude freed up from being directed to Eastern Europe means a surplus to sell elsewhere. Which means that Russia will be looking at deals with other countries and refiners, possibly in markets with Aramco is dominant. That level of tension won’t be seen for a while – these deals takes months and years to complete – but we can certainly expect that agitation to be reflected in upcoming OPEC+ discussions. The club recently endorsed another expected 400,000 b/d of supply easing for January. Reading the tea leaves – of which the PKN Orlen is one – makes it sound like there will not be much more cooperation beyond April, once the supply deal is anticipated to end.

End of Article

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Market Outlook:

-       Crude price trading range: Brent – US$86-88/b, WTI – US$84-86/b

-       Crude oil benchmarks globally continue their gain streak for a fifth week, as the market bounces back from the lows seen in early December as the threat of the Omicron virus variant fades and signs point to tightening balances on strong consumption

-       This could set the stage for US$100/b oil by midyear – as predicted by several key analysts – as consumption rebounds ahead of summer travel and OPEC+ remains locked into its gradual consumption easing schedule 

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