The Crude Report: Understanding China’s weak third quarter

Author Argus

In this episode of The Crude Report, a podcast series on global oil markets, we discuss how China’s crude oil purchasing activity has changed alongside oil prices and politics.

Argus Vice President and Editor of the Argus China Petroleum Service Tom Reed joins to evaluate the motives behind Beijing’s nudge to increase US crude purchases, China’s INE futures exchange and whether the dramatic recovery in China’s oil demand post-Covid-19 is running out of puff. 

Global crude market highlights


Jessica: Hello, and welcome to Argus' The Crude Report, a podcast series on global crude oil markets. My name is Jessica Tran and I am your host for today's episode.

Trade relations between the United States and China has been the hot topic for some time now, and yet it still feels fresh because it seems to constantly shift. In what looks like a belated attempt to build bridges, it seems that Beijing has nudged state-owned firms into buying more US crude and has even been seen to waive import duties when asked. To help peel this onion a bit, I've enlisted the help of Argus Vice President and Editor of the Argus China Petroleum service, Tom Reed. Tom, what's going on here?

Tom: Hey, Jess. Yeah. It has been up and down a bit to put it very mildly. Obviously, the two sides signed a trade deal in January which committed China to buying a huge amount of US commodities, energy products which a lot of people thought at the time was far too high, that it was unrealistically high. In fact, a lot of people have been saying that this was, you know, really just a symbolic gesture on Beijing's part to try and placate a US President Donald Trump and butter him up a bit, you know. Keep him sweet. Obviously, since then, relations between the two sides have deteriorated very markedly. And I think, you know, from President Trump's perspective, he sees a lot of electoral capital in China bashing and that has obviously colored relations.

What's been interesting this month is that we have seen a very large increase in Chinese purchases of US crude. Now, a lot of people have been surprised by this. They say, you know, US crude is not the most competitive crude on offer to Chinese buyers. And they wonder you know, what's behind this. And it does seem to be the case that Beijing is nudging its state-owned oil companies into buying more U.S. crude in what appears to be a belated attempt to, you know, appeal to President Trump, appease President Trump even. So, we've seen one state-owned company buy I think it was 8mn bl of WTI this month that'll be arriving in October. We've seen independent refiners as well, and they're not usually buyers of US crude, which tends to be either too light or too sour for them. They've also come into the market and they've bought another 3mn barrels and that'll be arriving in September, October. So, very interesting development. It does look though that it might be kind of too late to salvage the trade deal aspect of the two countries relationship.

Jessica: It's great that you mentioned that because I was going to ask: considering all of these purchases, like how much progress has been made toward the Phase 1 trade agreement quota?

Tom: Well, I mean, very little really, because for a start, the target set were unrealistically high. We calculated in January that China would need to buy 800,000 b/d of US crude, which has never happened. At July prices, obviously, price is now lower that we reckon probably translates into an import requirement of about 1.2mn b/d of US crude, it's no more likely now really than it was in January. What's interesting though was obviously when markets collapsed in late March in response to the Covid-19 pandemic, the Chinese government stopped cutting, start reducing the regulated prices for fuel of the pump, gasoline and diesel, and that left refiners with a very, very chunky margin on paper. Even though demand was dead in China because of lockdown, you know, refiners were looking at refining margins of sort of $30/bl and that encouraged them to buy an awful lot of US crude. So, we did see them come into the US market during their own lockdown and buy about 1.3mn b/d of US crude for delivery this month. And we've seen that arriving in Chinese ports this month. That wasn't enough, however, of course, to put China back on course to hitting its trade deal targets, because that would require it to import that amount of crude over the whole year.

Jessica: So, what does happen if the target isn't met?

Tom: Well, I mean, given the target never appeared realistic, I think a lot of people thought it was really going to be a question of how President Trump felt regarding China at the time of the US elections and how he saw responding to China would fit within his electoral campaign, you know. By touting the success of the deal, obviously President Trump can convey an image of a powerful dealmaker, able to get things done. On the other hand, if China is still very much in the doghouse with accusations of flying around of spying and, of course, the closure of the Chinese consulate in Houston this month, then perhaps, you know, he might deem the trade deal to have failed. But either way, I think it was ultimately expected to be very much up to President Trump's discretion as to whether or not China had achieved its goals.

Jessica: Okay. So, I guess heading back toward commodities a little bit, I've also read reports that the global market is flooded with refined products. So, with that understanding, in normal times, some of the crude that China buys is usually refined and then exported, so what is China doing to offset this decreasing global product demand?

Tom: That is a really good question because, you know, China's recovery post-Covid, or can be said to be post-Covid has been really remarkable when we look at the crude unit utilization rate. The amount of percentage utilization of Chinese refiners, it's a V. You know, this is a V-shaped recovery in terms of oil demand it created in March, April, and it sprang back up. And refinery runs hit record highs in June, July. That obviously leaves China with an awful lot of product. At the same time in the last month, most of China has been deluged with unprecedented amounts of rain that's led to huge flooding all along the Yangtze River particular affecting South China. So, people haven't really been able to drive. So, there's a huge product surplus building up in China, which it's going to have to export. At the same time, you know, we're seeing a resurgence of COVID cases elsewhere in the world. We've seen Singapore gasoline refining margins turn negative. Again, we've seen the time spread on Singapore gasoline turn into contango, which means that, you know, it's cheaper to buy gasoline now than in the future, which is a good indication of weak prompts demand. So, where is China going to place those barrels? We don't know. It keeps looking at markets further and further afield. And what we're seeing in the product spaces is also happening in the crude space where we've seen one of the, you know, the big Asian marker, Dubai Crude, that's also gone into contango again with weak prompt prices just as the Opec+ group is starting to increase supply after those deep supply cuts we saw. So, we are kind of looking at very, very weak, you know, third, early fourth quarter it seems for oil.

Jessica: Okay. And I also read in the latest Argus China Petroleum report, that China's still hoping that its homegrown crude futures contract INE will become an international marker. How is it going with that exchange, is it gaining popularity? And I also read that the exchange itself is booking crude oil storage capacity. Why and how does that work?

Tom: That has been fascinating to watch actually. China launched the Shanghai INE sour crude futures index in 2018 after about a decade of planning. This was supposed to be, you know, the Asian benchmark from Beijing's perspective. It was very much hoping that that would gain traction. It hasn't as a global crude marker. It's sort of it's been very heavily dominated by financial and retail investors. So, we've seen very, very high daily trade volume, but very low open interest, which is, you know, positions held to expire or held out overnight by commercial market participants. That changed, that changed in April when suddenly the price of the INE spiked to $14 above the price of DME Oman, which is a kind of comparable sour crude futures index, a more established crude futures index. That made it very attractive for people to buy on the DME and sell into the INE. Unfortunately, of course, there weren't enough storage tanks for people to deliver all that crude into. So, the INE raced around arranging more storage tanks. And so, we have seen the INE price converge with the DME price. It's looking more realistic as a crude marker once again. Has it now know, does it now have a prospect of becoming a global crude marker? It's far too early to say, you know, one swallow does not a summer make. I think it's going to require a few more months, you know, 6, 12 months of consistently returning a reliable pricing before people start to look at maybe indexing physical deals against that INE price.

INE: Crude stocks by grade

Jessica: Okay. And then what about the whole thing with booking storage?

Tom: Well, I mean, this was the thing, the INE didn't have the storage space. There was no storage space in the INE exchange for sellers to deliver crude into it. Which is one of the reasons why the price went crazy, you know, because it's the responsibility of the seller to find that tank space. The sellers had no tank space, there was no tank space in the INE system, so, you know, there was a drop in selling interest into the INE because sellers realized that they would be, you know, faced with a very difficult decisions when it came to deliver that crude. And that was why we see the INE arranging the lease of additional tank space. The peculiar thing was, of course, that, you know, Chinese imports over the summer have been astronomically high, really, really very high. So, there wasn't a lot of storage space available in China for the INE to lease. It ended up leasing some tanks up in Shandong Province, which is a province dominated by independent refiners who don't run the type of crude, you know, that you can you deliver into the INE tanks. Shandong refiners run sweet crude, the INE exchange uses sour crude. So, now, we've got a huge buildup of sour crude from the Middle East, mainly Iraqi Basrah Light sitting in Shandong Province, where it's hard to see it really finding much demand you know, from the local independent refining sector. It will be very interesting to see how that plays out. I mean, one of the peculiarities of that was that China actually exported some Omani crude, bear in mind that China is the largest importer, the largest market for Omani crude. It actually exported a small cargo this month when it became cheaper to buy on the INE exchange than it would have been to buy that same crude from Oman.

Jessica: It's always interesting to see what creative ways people will find when trying to save their dollar.

Tom: Yeah. That was, I think, rather unexpected, but it did very much play into the Chinese government's narrative of, you know the INE as providing, I guess, a clearing price for crude. The fact that this was an aberration resulting from various I suppose distortions in the pricing structure is ultimately neither here nor there. You know, if these sort of trends persist, then maybe the INE could become a marker. But the consensus is really that it's far too early to say, and that one or two months of sending out a reliable price signal is not enough to encourage people to price trades against it.

Jessica: So, I guess the only consensus is really that this topic isn't going away anytime soon.

Tom: It's not going away. Yeah. We'll be watching it.

Jessica: So, I'm sure we'll have to update this discussion sooner rather than later. Thank you so much for your time today, Tom.

Tom: That's entirely my pleasure, lovely to speak to you.

Jessica: For more insight analysis and a plethora of Chinese data such as crude import volumes and apparent oil demand, refinery runs and margins and crude storage capacity, consider subscribing to our Argus China Petroleum service. You can find more information on the service at Thanks for tuning in. And we look forward to you joining us on the next episode of The Crude Report.

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