Podcast - Driving Discussions: Covid-19 and its impact on the European gasoil market

Author Argus

Join Harry Riley-Gould, Market Reporter, European Products Report and Nicolas Kyriakoglou, Market Reporter, Freight as they discuss the state of today's European fuels market.

The podcast is moderated by Josefine Ahlström, VP, Business Development, Europe and will focus on gasoil, developments in diesel trading and the connected clean freight market.


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Josefine: Hello and welcome to another podcast in the Argus series, Driving Discussions, focusing on the fuels markets. We are in Europe today and we'll be talking about the impact on the European gasoil markets from the Coronavirus and in particular the developments in the diesel trading market and connected clean freight markets. My name is Josefine Ahlstrom, VP business development for Europe here at Argus and with me today, I have Harry Riley-Gould, who is covering gasoil for Argus via European Products Reports. Welcome, Harry.

Harry: Hi, Josefine.

Josefine: And also we have Nicolas Kyriakoglou from our freight team covering clean products freight. Welcome, Nicolas.

Nicolas: Thank you.

Josefine: So Harry, let's start with looking at the gasoil market and the current market structure and demand picture. What is it looking like here now presently and if you look further down the forward curve?

Harry: So at present, the gasoil market is facing the possibility of quite a significant oversupply relative to end-user demand. And that's one factor that has led to a period of sustained contango in the ICE gasoil forward curve. That means that the prices for ICE gasoil futures are higher for contracts that expire further out than those that expire soon.

So for example, last Friday, the April contract was trading at a $7 per ton discounts, the May contract and an $18.50 per ton discount to the June contract. And when you have this structure in the forward market, this makes it economical to buy gasoil and then place it into storage and then using futures contracts to sell further out when the price will be higher. So as long as the spread between the prompt and the future price is larger than the cost of storing the product tank, then that means you can make an easy profit.

Josefine: So how are these movements on gasoil related to crude and the extreme movements that we have seen since the beginning of March?

Harry: So, the gasoil forward curve has actually been in contango since late February. But the curve steepened dramatically in early March, which was when the OPEC plus group of oil-exporting nations failed to agree a new production cut, and then subsequently, the Saudi Arabian government announced a large increase in its oil production, as well as a cut to sales prices.

Now, the impact of this on the crude oil forward curve was to push back curve into a steeper contango structure, which then also pulled the gasoil curve into a steeper contango structure as a result, because gasoil price is ultimately derived from crude prices. And therefore, the curve is very receptive to price movements in all futures, and particularly dramatic swings, like, which we...that which we saw in March. And so it was really only after the crude prices plummeted, that we began to see extremely high flows of diesel heading to tank storage.

Josefine: That's very interesting. Thanks, Harry. So how do you see this interacts then with demand? Hasn't diesel been hit as extreme as for example, the gasoline demand side, which we also spoke about last week in our podcast, and it's not the same as gasoline? Are you then saying and/or seeing that this diesel is much more profitable than gasoline for the European refiners?

Harry: So the picture on the demand side is somewhat mixed. And certainly, we're seeing less demand from the passenger vehicle sector and some freight sectors and that's because of lower economic activity as a result of the lockdown measures that are being put in place in order to combat the Coronavirus.

However, on the other hand, this steepening contango structure and the forward curve has actually stimulated higher demand for gasoil from traders who are looking to make the kind of storage play that I mentioned before. And so, in addition, we're also seeing some high demand from some end-users, particularly in Germany, who are responding to the lower outright gasoil price to stock up on diesel and also heating oil whilst the product is cheap. And so heating oil, the one particularly in Germany, which is a major source of demand, is very price sensitive and responds very quickly to moves in the outright price.

So it was because of this, as well as widespread maintenance work at European refineries that middle distillate margins for crude have actually seen pretty strong gains since...in recent weeks, even as increasingly strict measures to contain the Coronavirus outbreak have been introduced in Europe.

The other factor is because of this maintenance work, Europe has net short diesel. Therefore, when there's heavy maintenance in Europe that has a much bigger impact on prices as opposed to gasoline, which Europe has a surplus of, which is one reason why you've seen such a big discrepancy between diesel and middle distillate prices and gasoline prices.

But the big question in recent weeks now has been what is going to happen to gasoil prices once storage capacity has run out, and that demand from traders starts to dwindle? In the Mediterranean where tank capacity is more limited than Northwest Europe, we've actually seen prices fall relatively sharply compared to the north and Mediterranean diesel cargoes are now trading at the widest discounted cargoes in the north in around nine years. It's because of falling tank capacity that traders, therefore, have begun to discuss the possibility of using oil products tankers as floating storage. This is for gasoil, but also for jets and gasoline, the last two products which have forward curves that are also in steep contango, and then therefore potentially, you will have a higher profit from putting them into storage. And so I'll leave that for Nick to discuss a bit more on the economics of tank storage, floating tank storage.

Josefine: So thanks for that elegant segue right over to our other guest today, Nicolas, coming from...more looking at the freight side of it. So do you think Nicolas that with the falling tank spare capacity on land, do you see on your side developments in the clean freight markets for floating storage? Is it something that is starting to happening or is it perhaps already a widespread practice at the moment for diesel traders?

Nicolas: Thanks, Josefine. So, in the tanker market, we have seen a few storage deals done, but mostly in Northwest Europe, so far. But some people in the market are also talking about Mediterranean storage in particular is that is more limited than in Northwest Europe. But so far, jet fuel has been mostly the only product for which we have seen consistent floating storage demand, which is likely because air transport was hit more quickly than road transportation.

But, the problem for charter so far like diesel traders and refiners who are looking to store oil products offshore has been that while oil product markets tanked significantly, freight rates have remained relatively high in the past few weeks, at least in Northwest Europe and the Mediterranean. And even up to this week on the largest ships like the LR1s and the LR2s, which carry 60,000 and 90,000-ton cargoes, freight rates have remained quite firm. While on the smaller and more than handysizes they have now started to cool off at the end of last week and this week.

Josefine: So Nicolas, what does this really mean for anyone looking at floating storage? Is it an attractive option?

Nicolas: Well, mainly it has been difficult to find ships at attractive rates to store oil, because shipowners at this time would likely prefer to trade in the spot market because the charter rates there are high for voyages. So this means that anybody who is looking to book storage has been looking at relatively expensive rates for those ships. So instead of...but some charters instead of booking ships just for storage, they're looking at product tankers to employ a flexible strategy where they can use the ship either storage or to place them in the spot market themselves.

Josefine: And when you look at their other vessel sizes like LR1s, LR2s, is that the same picture you see there?

Nicolas: Yeah. So we see it across the board, I would say. So far, it's been mainly Long Range 2 and Long Range 1 tankers which have been put up for storage because those also carry the larger cargoes. So the LR2s that we have seen have been either booked or attempted to be booked at around sort of $45,000 to $50,000 per day, and the other ones around say $30,000 to $35,000 per day, although a few have suggested maybe slightly more than that. So these higher levels storing a 90,000-ton cargo would cost just under $18 per ton per 30 days, and about similar levels for 60,000-ton cargo. So this means that for both LR1s and LR2s, if the price differential between April and June, let's say, is $30 per ton as it is on jet fuel, the product charters could profitably store product for just over 50 days.

But as we discussed, the differential in gasoil are not strong enough at the moment to justify it just storing the product on the ship for, let's say, 50 days or more. And because that contango might not be steep enough, it seems that charters are not interested in doing just storage per se, and are employing this flexible strategy that I mentioned with the ships that they're booking.

So some of the shipbrokers that we have spoken to say that instead of just taking the ship to store, they're taking them on short time charters. So those would be at least on the LR1s and LR2s, at least four months and up to nine months. And during that time, they can decide what to do with the ship. So in this scenario, let's say, a ship is booked for four to nine months, the charter may then stop to charter that ship in the spot market during the first month. And after that, they might decide to load the ship up for storage. This kind of allows the charter to lock in a daily higher price, you know, for a specific amount of time, during which they can decide what they want to do with the ship.

Josefine: So we can't charter [inaudible 00:10:39] delay in discharging products, and instead of sort of looking...instead of looking for new vessels to charter within our producers floating storage.

Nicolas: Well, no. If instead, they booked the ship for a voyage and then decided to delay the discharging of the cargo, which would as you say effectively be storage, they would actually pay a higher daily rate for the merge which is a form of payment to the shipowner for delaying the vessel. So, trading firm Clearlake is a good example of this. Clearlake took the TORM Marina which is an LR2, so it can take up to 90,000-ton cargoes from Northwest Europe on a time charter deal at $47,500 per day for around six months. And instead of storing oil in the ship right away, the company attempted to sub charter the ship to Saudi Aramco's trading arm ATC for a voyage from Yanbu which is in the Red Sea to Northwest Europe for $4.1 million. So that is revenue for Clearlake.

And according to one shipbroker, Clearlake would earn around $12,000...excuse me, $12,500 a day in that trade as profit before accounting for bunker costs. In the end, the deal fell through, but that is sort of one example of how some charters are trying to be more flexible with a strategy by maybe earning some revenue in the spot market and then taking the ship out for storage.

Josefine: Okay. And what about MR tankers then, what's the status there currently?

Nicolas: So I'd say, demand for the MR tankers has been not as pronounced as for the LR1s and the LR2s, but a few have booked medium-range tankers, and those usually carry sort of 35,000 to 40,000-ton cargoes. The rates that we are hearing that are offered are around $19,000 to $22,000 per day, which means that a charter would make profit at just over 40 days if the prices...the difference between June and April is $30 per ton. So it's slightly more expensive than the LR1s and the LR2s. We've seen one booked at $20,750 per day. And storing, let's say, a 37,000-ton cargo would cost just over $19 per ton for 30 days. So the LR2s are slightly more economical.

Josefine: And finally...I mean, yes I guess the other group cargo, so the handysize and is that similar there?

Nicolas: So with the handysize, it's only just this week we heard of some storage interest in the Mediterranean. These ships usually carry between 30,000 and 33,000-ton cargoes. But since storage in the Mediterranean is more limited and the handysize are used quite extensively in the Mediterranean, I think that's why we've started seeing some more interest this week. So one refiner reportedly offered a gasoil cargo from Lavera to another Mediterranean port with a storage option after the voyage. But so far, it's kind of unclear for how long the storage option is and how it works if they decide to do the voyage, but most likely it will be a similar idea to how the charters are operating the LR2s where they can hire the ship to either store oil or trade in the spot market.

Josefine: So do you think, I mean, hearing all these different vessel sizes and what's going on, should we expect more options for floating storage? And I mean, if people start to use this option of overusing the storage option in their contracts, and also, I mean, quite importantly, so anyone who would like to understand or follow the assessment that you publish on freight, can you please give us a brief on what is the Argus Freight Report?

Nicolas: So to answer your first question, I believe that there is potential for us to see more storage as it relates to the freight market because freight rates as I said at the start have been relatively high. But now that European product demand has been pretty heavily hit, the short and medium-haul freight rates, which would be on the medium-range tankers and the handysize tankers, will come down further. And as they come down, sort of persuading shipowners to take, you know, short-time charter deals with storage at lower rates will become easier for the charters. And you can follow those price movements in the Argus Freight Report.

In particular, our Argus assessed price for Long Range 2 tankers from the Mediterranean to Japan, is at $4.05 million currently, and for the Long Range 1 tankers from Northwest Europe to West Africa, the price is $36 per ton. And these are sort of reference prices for where the market is heading in those two tanker sizes, and both are relatively high at the moment which might explain sort of the relatively slow uptake for product tankers. On the smaller ones, so the medium-range tankers carrying 37,000 tons from the U.K. continent to the U.S. Atlantic Coast, the Argus assessed freight rate is down 16% to $23 and $72 per ton since last Monday on 30th of March. And the handy...the Argus assessed handysize rate for 30,000-ton cargoes from the U.K. continent...excuse me, from the Baltic to the U.K. continent is also down 13% to $14 or 3 per ton since that time. So I urge anyone interested in the potential for more storage deals on these ships to follow the Argus Freight Report to stay up to date with those prices.

Josefine: And Harry, so anyone wants to follow the gasoil markets, can you tell us where do they find it or how is it covered in the European Products Report here at Argus?

Harry: So, as part of the European Products Report, we're issuing daily prices on a number of gasoil products, including heating oil and diesel barges traded in ARA, as well as heating oil cargoes in Northwest Europe and the Mediterranean and diesel cargoes in Northwest Europe and the Mediterranean. And that's part of our larger coverage of middle distillates, which also includes in-depth analysis of the jet market.

Josefine: Great. Thank you so much. Thanks, Harry for useful insights on the gasoil and Nicolas on the freight side. That has been a very, very useful conversation. And for any of the listeners if you would like to track the immediate fallout from the Coronavirus on the commodity markets, simply just head over to our dedicated hub page on the Argus Media website which is www.argusmedia.com/coronavirus and many thanks for listening.