Viewpoint: Depressed margins weigh on US VGO prices

US VGO differentials to the clean products 70:30 split rose to their highest level in almost four years near the end of November, signifying the weakest fluid catalytic cracker (FCC) margins since that time.

FCC margins have been deteriorating since early September with little reprieve through December.

A prolonged period of depressed FCC margins could lead to unit run cuts, thus limiting production of gasoline and distillates. But the VGO pricing outlook for January is bullish amid expectations of inventory replenishment and planned refinery work.

Talk of crude unit turnarounds at two Port Arthur, Texas, refineries has emerged, although this remained unconfirmed by the refiners. ExxonMobil's FCC at its Beaumont, Texas, refinery is also anticipated to have completed maintenance by then, which would lift the major out of a balanced-to-oversupplied situation in VGO.

ExxonMobil had been a steady high sulphur VGO barge seller throughout much of the fourth quarter because of the FCC work. The FCC was initially expected to resume operations in December, but suffered from problems mid-month.

Venezuelan demand for mid-sulphur VGO and diminished exports from Europe kept VGO cargo supplies limited in the fourth quarter, but demand from Venezuela stayed tenuous and subject to being scaled down from the current two to three 500,000 bl cargoes a month.

Typical VGO price relationships changed in the second half of 2018 as well, as high-sulphur VGO values inched above the sweet grade for short periods of time. High-sulphur VGO demand has also superseded that for the sweet grade, leveling barge values for all VGO specifications in the US for much of December.

Fluctuations in crude prices and a persistently wide Brent crude premium to Nymex WTI led US participants to adopt Brent-based differentials in both cargo and barge deals, decreasing the use of Nymex WTI as a pricing basis. VGO has been priced against Nymex WTI for the majority of business done since 2005.

The VGO market could be subject to more changes in 2019, with the low-sulphur bunker fuel specification coming into play in 2020.

Distillates margins have far exceeded those of gasoline in 2018 and that trend is expected to continue. Low-sulphur distillate demand should increase more when the 0.5pc sulphur bunker fuel specifications become mandatory in 2020. Refiners seeking to supply more low-sulphur distillate to fill the bunker fuel mandate could divert VGO from FCCs, thus decreasing FCC runs.

Stronger 0.5pc sulphur bunker fuel demand could either pull VGO more into hydrotreating, away from FCCs, or into direct blending to make the specification. Refiners could choose to reduce or shut down FCCs if the US continues to overproduce gasoline, leaving an uncertain landscape for the VGO market.