Mexican demand for ultra-low sulphur diesel (ULSD) imports may rise by 100,000 b/d starting next year, when new laws limiting diesel sulphur to 15ppm take hold.
Regulation passed in 2016 by the energy regulatory commission (CRE) will ban 500ppm sulphur diesel — currently 24pc of Mexico's diesel consumption — by January 1, 2019. Based on June 2018 data, the switch could mean a 36pc increase in ULSD imports, at a time of heightened global demand for ULSD.
The ruling poses a major challenge for state-run Pemex, as domestic ULSD production only meets about 9pc of demand, and only three of its six refineries can produce the low-sulphur fuel.
Pemex told Argus it has asked authorities to postpone the mandate, citing the high costs of producing ULSD.
Domestic diesel production constituted a third of Mexico's total demand of 410,000 b/d in June 2018, according to data from the energy ministry (Sener). Three quarters, or 100,000 b/d, of domestic diesel production was 500ppm diesel. All of that will likely come from additional imports.
"What we expect is that the limit gets postponed," Cesar Cadena, president of Grupo Energeticos diesel trading group in Monterrey, Mexico, said.
The January 2019 switch would likely complicate Pemex's operations at its three refineries that lack the ability to produce ULSD — Tula, Madero and Minatitlan. These refineries have a combined capacity of 790,000 b/d.
"[Pemex] would probably not only stop diesel production, but also gasoline production as they are in the same refining trains," Cadena said, referring to refineries that can only produce 500ppm sulphur diesel. "Producing something you cannot sell is toxic for any company."
Financial and political struggles have led to a steady erosion of domestic production and increased reliance on imports over the past few years.
Pemex is planning to revamp three of its six refineries — Tula, Salamanca and Salina Cruz — in coming months in order to process heavier crude. But if history is any guide, maintenance can be lengthy, and finished upgrades may not do much to boost domestic production.
Pemex has tried to install desulphurizers in its six refineries since 2012. The oil price crisis in 2014 took Ps100bn ($5.2bn) out of its budget — assigned through the federal budget — leading to cancelling the project to install desulphurizers.
Pemex upgraded the 285,000 b/d Minatitlan and the 190,000 b/d Madero refineries in the past year, but run rates have been dogged by weak margins, and overall production has not increased. None of these two have desulphurizing plants.
In addition, Mexico's refineries remain vulnerable to hurricanes and earthquakes, as exemplified by prolonged shutdown of the country's largest 330,000 b/d Salina Cruz refinery last year.
US geared to export
If the mandate for 2019 prevails, the 100,000 b/d demand will hit US markets as early as this fall.
Mexico is already by far the biggest taker of US exports of ULSD. A 100,000 b/d increase in its demand will be a boon to US refiners.
US exported 266,000 b/d of ULSD to Mexico in May 2018, according to the US Energy Information Administration (EIA). Chile, the second biggest importer of ULSD from the US, took in slightly more than half what Mexico did in May.
ULSD exports to Mexico also amount to nearly half of the ULSD moved on the Colonial pipeline, the main artery of the US domestic supply system from the Gulf coast to New York Harbor and the benchmark price for diesel exports.
US refiners reached record processing rates in mid-August, amid low inventories and double-digit margins.
Global demand helped push US Gulf coast ULSD prices to $2.25/USG this May, the highest level in three-and-a-half years, according to Argus assessments.
Whether Mexico's sulphur limit it hit in 2019 or 2020, US fuel sellers will relish the opportunity to supply an increase in Mexican demand for low- sulphur fuel.
"Here is to hoping," a US refiner said.
Global demand to rise
Global demand for ULSD is set to increase, as the International Maritime Organization (IMO) caps marine fuel at a 500ppm sulphur maximum, down from the current 3.5pc, by January 1, 2020.
Many global market participants are expected to start racking up ULSD storage starting this winter for the 2020 switch.
As a result, even though it is likely for Mexico to postpone the 15ppm maximum sulphur ruling past 2019, it is unlikely for the country to continue producing and consuming high-sulphur fuel past 2020 given the IMO ruling.
Mexico currently allows 500ppm sulphur diesel to be used in power generation, marine and rail transportation, as well as agriculture and industrial sectors including construction and mining.
In addition, 500ppm sulphur diesel is also currently allowed for road use in areas outside three main cities — Mexico City, Guadalajara and Monterrey — and the highways connecting them.
