Ukraine crisis fallout could hit oil supplies

Threatened US sanctions against Russia if the latter launches military action in Ukraine — something Moscow denies it is planning — could extend to the energy sector, potentially hitting Russian oil exports.

In the event of an invasion, Washington has threatened to impose strong financial sanctions on Russia and — if there is agreement with European allies — to target Russia's oil and gas exports. Large trading companies buy much of Russia's crude under term agreements, including pre-financing deals, which could be affected by financial sanctions.

The US has not specified what sort of measures it is considering against oil and gas exports but the idea of a blanket ban has already been raised in Europe — the European Parliament earlier this year passed a non-binding resolution stating that if Russia invades Ukraine, the EU should stop imports of Russian oil and gas immediately.

Russia supplies up to 1.5mn b/d of crude from Baltic ports, up to 400,000 b/d from the Black Sea and up to 800,000 b/d through the Druzhba pipeline to central and eastern Europe. For refiners in northwest Europe and the Mediterranean, Urals tends to be part of a wider crude intake, while for those on the Druzhba system it still accounts for the majority of supplies, despite efforts in recent years to diversify.

From a quality standpoint, European Urals buyers have a number of alternatives to the Russian grade. These include North Sea crudes such as Forties or Johan Sverdrup, with the latter having emerged as an important alternative to Urals in northwest Europe since coming on stream in 2019.

Buyers also occasionally turn to Iraq's Basrah crude streams when Urals supplies tighten or prices surge. Sour Mideast Gulf crudes are often blended with long-haul imports of US light sweet WTI to yield a synthetic Urals replacement — some refineries in northwest Europe opted to do this in 2019 after Urals shipped through the Druzhba system and to Ust-Luga was contaminated with excessive levels of organic chlorides.

An Aframax cargo of WTI was delivered to the Polish port of Gdansk in November last year, with a similar-sized shipment having been delivered to the Lithuanian port of Butinge two months earlier for Polish firm PKN Orlen's 267,000 b/d Mazeikiai refinery. Imports of medium sour Mars crude from the US Gulf coast can also substitute for the Russian grade, although arbitrage economics mean flows of this type are rare.

Mind the gap

These alternatives, however, would not be enough to fill the gap in the event of a full embargo on Russian crude exports. Much of the 500,000-600,000 b/d of Johan Sverdrup supply is booked for long-haul delivery to China and availability of Iraqi Basrah crude is also severely limited. Iraq's Somo has already signed supply contracts for 2022 and allocated exports to term buyers, as has Saudi Aramco. Both Saudi Arabia and Iraq could raise production, as sanctions against Russia would effectively spell the end of Opec+ efforts to unwind output cuts, but any significant increases would erode dwindling spare capacity within Opec. Somo did not offer Basrah Medium or Basrah Heavy to spot buyers in Europe in January or December, traders say, opting instead to prioritise term clients, and it is unclear when the firm may reverse this decision.

Most Druzhba buyers have tried to diversify their crude intake in recent years. PKN's Orlen recent preliminary deal to buy 200,000-337,000 b/d of crude from Saudi Aramco could could result in Saudi Arabia accounting for almost half of its crude supplies. Other European refiners have cut Urals intake after increasing use of renewables feedstock, with key buyers like Neste, Preem and TotalEnergies converting their respective Porvoo, Lysekil and Grandpuits refineries to co-process both crude and renewables.

Any potential US sanctions would also coincide with a predicted rise in crude demand as the threat of Covid-19 wanes. Russian crude output is at the same time nearing its 10.4mn b/d limit, as estimated by the IEA, as the Opec+ group continues to relax production quotas.

By Felix Todd