Viewpoint: European VGO market could tighten in 2021

Supply of vacuum gasoil (VGO) in Europe could tighten further next year as a result of Russian refinery upgrade programmes, while demand for the alternative feedstock is most likely to depend on the wider oil complex recovery from the Covid-19 pandemic.

Traders expect Russian exports of VGO to continue a downward trend next year, as the plant upgrades lead to higher domestic consumption. Russia's VGO processing capacity will increase by as much as 20.3mn t/yr over 2021-27, and its catalytic cracking capacity could rise by 3.3mn t/yr over that time, according to Moscow's Gubkin University.

State-controlled Rosneft offered just 7.74mn t of VGO in its term supply tender for 2021, compared with at least 8mn t for 2020. The firm is the leading exporter of Russian VGO, as it consumes the most crude across its system and its upgrade programme lags those of other Russian firms.

Tatneft and Gazpromneft made progress on large-scale upgrade projects in 2020, which could affect VGO supply in 2021, and Lukoil is scheduled to commission a 700,000 t/yr delayed coker unit (DCU) at its 365,000 b/d Nizhny Novgorod refinery.

Argus data show that VGO exports from the former Soviet Union (FSU) region totalled 10.43mn t in the first 10 months of 2020, down by almost 8pc from 11.28mn t a year earlier, which was in turn down by 9.3pc year on year.

Surplus VGO supply within Europe could be capped in 2021 if prevailing market conditions continue. Poor refining economics pushed trading firm Gunvor to mothball its 115,000 b/d Antwerp refinery in 2020. That refinery exported as much as 1.37mn t of VGO in 2019. VGO supply has also been reduced by widespread crude run cuts caused by heavily-eroded refining margins. Refinery utilisation rates in the EU-15 plus Norway reached just 69.3pc in October and 71.1pc in November, according to Euroilstock.

But the likelihood of reduced VGO supply in 2021 may mean an unbalanced European market. Demand could also be suppressed, because as an intermediate refining feedstock used to maximise refineries' gasoline and diesel output, the level of road fuels consumption will influence VGO demand. Progress towards widespread vaccinations will probably lead to a gradual winding down of travel and business restrictions in the coming months, spurring increased consumption of transport fuels.

The IEA predicts gasoline and diesel demand will return to around 97-99pc of 2019 levels in 2021, according to its December Oil Market Report (OMR). But that forecast assumes an effective vaccine roll-out in OECD countries in the first quarter, and the IEA warned of a potential third wave before it is able to take effect.

Road fuels markets will still have to contend with multi-year high stock levels from this year, even if restrictions are lifted and demand recovers.

A precarious recovery for transport fuels could therefore limit VGO demand growth but, conversely, VGO could again draw support from poor products margins as it did in 2020 when economically-driven crude run cuts left refiners short of feedstocks for secondary units.

Covid-19 could also continue to affect levels of European VGO exports in 2021. The US is the world's leading VGO buyer, but transatlantic movements have fallen in 2020. VGO flows from European and Russian ports to the Americas averaged just 600,000 t/month over January-November, down by around 30pc from 2019's full year monthly average, according to Vortexa.

By Robert Harvey