Asian Oil Price Analysis 3: Streamlining of Asian Oil Market and Global Link of Oil Prices

Transcription

1 Asian Oil Price Analysis 3: Streamlining of Asian Oil Market and Global Link of Oil Prices Yoshiki Ogawa, Ph.D. General Manager, the Second Research Department Highlighting Points A new phase has been watched since 19, in which oil product prices in the Singaporean market are beginning to exert pressure on crude oil prices as a result of increasingly sluggish oil demand in Asia, coupled with surplus refining capacities. Meanwhile, however, oil product market in Singapore has not attained full growth yet. Therefore, loose link, in which product prices are adjusted in accordance with arbitration among parties involved, has not been established between the Singaporean market and European/U.S. markets, It is essential that the Asian oil product markets are established and expanded in various oil-consuming areas through deregulation and trade expansion measures so that a global link is established with European/U.S. markets. Introduction Crude oil prices, which ceased to fall thanks to cooperated production cuts by OPEC and non-opec countries, have recently turned upward to reach around $25/barrel and remain at that level. Behind this somewhat bullish market are mounting tension in the Middle East such as the Palestinian dispute and Iraqi issue as well as an increase in oil demand due to the U.S. economic recovery, without mentioning the cooperated production cuts by OPEC and non-opec. Oil prices have frequently repeated violent ups and downs since 16. To stabilize oil prices, isn t it necessary to establish a global link between the Asian oil product market and the European/U.S. markets? With this point at issue in mind, this report aims to outline the special characteristics of the Asian oil product market. 1

2 1. Price Formation Mechanism in Singaporean Market Differs from that in European/U.S. markets The oil product market in Singapore is the only such market in Asia, which is engaged in active international trading at present. Market activities in Singapore began, when the oil majors built refineries as an intermediate point to supply oil products to the Asian market. As oil demand in Asia grew in and after the middle of the 10s, Singapore also came to play a transit center role for oil product trading. As a result, oil product prices established in Singapore have become standard indices in Asian oil product trading. How are oil product prices in Singapore, the international market representing Asia, related with oil product prices established in European/U.S. markets? Taking up the Rotterdam market representing Europe and the Gulf market representing the U.S., product price differentials between Singapore and Rotterdam and between the Gulf and Rotterdam compared for the period of the 10s and after (Fig. 1). Oil products selected for this purpose are four: gasoline, kerosene (jet fuel), gas oil (heating oil), and HS (high-sulfur content) residual oil. The U.S. market has such a characteristic structure as demand for gasoline constitutes the greater part of total demand for products. Thus constantly tightening the supply and demand balance of gasoline, the gasoline prices in the Gulf always set at a relatively higher level than those in Rotterdam. The European oil market is characterized by the predominantly large share held by middle distillate fuels centering on gas oil with prices of middle distillate fuels such as kerosene and gas oil in Rotterdam set at relatively higher levels than those in the Gulf. The two markets in the Gulf and Rotterdam have thus built up a certain relationship balanced with each other. In and after 20, the price differentials for kerosene, gas oil and high-sulfur residual oil have changed between the two markets and the well-balanced relationship that prevailed in previous years broke up temporarily. In contrast, the relationship between Singapore and Rotterdam in terms of oil product prices had been such that prices of all products in Singapore were relatively higher than those in Rotterdam until 17, when sluggishness of oil demand loomed in Asia due to the Asian economic crisis. This makes it clear that product prices in Asia had been structurally higher and quite separated from those in European/U.S. markets. In and after 19, how- 2

3 ever, price differentials for white products such as gasoline, kerosene and gas oil narrowed, thus making prices in Singapore lower than those in Rotterdam, while prices of high-sulfur residual oil in Singapore became even higher. After all, the market in Singapore is obviously making an entirely different movement from European/U.S. markets. Singapore - Rotterdam US Gulf - Rotterdam Gasoline Kerosene Gas Oil HS Residual Gasoline Gas Oil Kerosene HS Residual Price Differential Price Differential (Source) Prepared by processing the data published in the Oil Market Intelligence. Fig. 1 Oil Product Price Differentials between Asian and European/U.S. Markets 2. Rate of refinery Operation at Low Levels in Singapore 3

4 Demand for oil has grown rapidly in Asia along with economic development in and after the middle of the 10s. In early years, the increase in demand had been met by increasing products imports. When it was made clear that the refining capacities were badly insufficient, the expansion of existing refineries and construction of new refineries was engaged by countries such as Thailand and ROK to meet growing demand for oil. Amidst these moves, since the Asian economies confronted the crises, oil demand sharply declined in 19. As shown in Fig. 2, the rate of operation dropped in major Asian countries refineries, resulting in large surplus refining capacities in Asian refineries. Operation Rate (% ) Korea China Singapore Japan (Source) Made from data on BP, Statistical Review of World Energy Fig. 2 Movements in Rate of Refinery Operation in Major Asian Countries 4

5 Although oil demand revived in the Asian market in 19, partly due to economic slowdown in the U.S., which was triggered by the bursting of IT-related economic bubble, the rate of growth in demand is slowing down contrast with vigorous growth witnessed in the first half of the 10s. While demand growth lost steam, construction of new refineries continued in countries such as India and Taiwan and they went on stream one after another, providing the market with a sense of surplus refining capacities in subsequent years. The average rate of refinery operation in Singapore plunged rapidly to a level of around 70 percent in 19 and refineries have been unable to get out of these doldrums until today. The rate of refinery operation varies considerably in Singapore, depending on whether sufficiently high refining margins can be guaranteed or not. In this sense, the rate of refinery operation is closely related with the formation of oil product prices in the Singaporean market. As noted above, the appearance of surplus refining capacities amid sluggish demand caused prices of white products such as gasoline, kerosene and gas oil to soften sharply in the Singaporean market in and after 19 (Fig. 1). It can be said that the product price structure, which was established by a steady increase in demand for oil products in the Asian market, has taken a drastically new turn due to slackening demand for oil, coupled with surplus refining capacities. While the product market has been bearish in the Asian market, the sharp increase in product prices, led by the U.S. market in and after 20, resulted in boosting crude oil prices for the Asian market. The refining margin thus narrowed apparently led refineries in Singapore to lower the rate of refinery operation. Meanwhile, Singapore began gathering up residual oil from the Middle East and other areas to supply bunker customers. It appears that operating refineries at low rates tends to tighten the supply of residual oil in Singapore, thus leading to a sharp increase in residual oil prices in and after Functioning of the Immature Asian Oil Market As noted above, the formation of oil product prices in the Singaporean market quite differs from those in European/U.S. markets. In both the Rotterdam market in Europe and the Gulf market in the U.S., individual oil product prices are determined in such a manner that the supply and demand balance of a product is reflected on the price of that product, and 5

6 hence the price of a product in the Rotterdam market is not necessarily identical with the price of that product in the Gulf market. However, when the price differential between the two markets widens greatly, that product moves from one market to another, unless special constraints happen, thus providing the arbitration between the two markets. This means that there exists an arbitrage link between European and U.S. markets so that product price differentials between them are loosely adjusted within a certain framework. When these European/U.S. oil markets are compared with the Asian oil market, they differ considerably in various aspects (Table 1). When looking at the crude oil market, the European and U.S. markets have their respective marker crude, selected from a variety of competitive crude produced within their markets and the price transparency is high in the matured market such as the futures trading market. In contrast, in the Asian oil market, imports of Middle Eastern crude are predominantly large in volumes, though imports of West African crude are increasing, and no locally produced crude is adopted as a marker crude for the market. The futures trading market remains immature and the transparency of the oil price formation process is still low. Table 1 Characteristics of Asian Oil Market and Differences from European/U.S. Markets Crude Products Asian Oil Market Futures trading market remains underdeveloped. Price transparency is low. Middle Eastern crude is predominantly used. Imports of West African crude are increasing. No locally produced crude is used as a marker crude. Regulations are in force and necessity for risk management is small. Singapore is the only international market. Trading is done primarily in large-scale cargoes. Product price is formed by adding cost to crude oil price. European/U.S. Markets Futures trading market is fully mature. Price transparency is high. Use of Middle Eastern crude is limited. A variety of competitive crude exist. Locally produced crude is adopted as a marker crude. Free market in which keen competition is carried on. Spot product trading market is developed in a country and in a region. A variety of trading in cargoes, barges, etc. Product price is formed by spot and futures trading. Crude oil prices and product prices mutually influence each other. 6

7 The oil product market in Europe and the U.S. is totally a free market in which keen competition is carried on, with product trading is done in a variety of forms such as cargoes, barges, etc. The product spot trading market is fully developed in a country and in a region. With the futures trading added to the spot trading, the product prices are formed with high liquidity and transparency. Crude oil and products mutually influence each other in establishing their prices. In contrast, in the Asian market, trading is done primarily in large-scale cargoes, with Singapore as the only international market. The oil market in each country is placed under regulations in many cases. Under the structure in which product prices are determined by adding costs to crude oil prices, the necessity of risk management is not yet so large. From the above, we can presume that the high product price structure in Asia until 17 had been supported by a chain of: (a) crude oil prices are first determined on a global basis in accordance with the supply and demand balance in Europe and the U.S., (b) crude oil prices for Asia are then determined from crude oil prices determined above on a global basis, and (c) Asian product prices are finally determined by adding costs to crude oil prices for Asia determined above. As a result of surplus refining capacities, which loomed as demand for oil declined, which in turn was due to economic crises, a new phase has been watched since 19, in which oil product prices are beginning to exert pressure on crude oil prices in the Asian market. Nevertheless, the formation of individual product prices in Asia still differs considerably from Europe and the U.S., it is too premature to say that a link in which product price relations are loosely adjusted has been established between Asian and European/U.S. markets. 4. Necessity of establishing and streamlining oil market through deregulation and trade expansion As referred to above, violent fluctuations of oil prices have become quite noticeable since 16. In order to minimize these fluctuations and stabilize oil prices on a global basis, isn t it necessary to acquire the power to globally link the Asian oil product market, which has a larger scale of oil consumption than in Europe and the U.S., with European/U.S. oil product markets so that the oil product relationship can be loosely adjusted between these markets? Such an arrangement on the consumer side is believed essential so as to curb the 7

8 oil-producing countries one-way move to press oil-consuming countries to accept their crude oil prices by frequently resorting to oil production-cutting strategies. To achieve this objective, it is important to streamline and strengthen the Singaporean oil market, Asia s only oil product market, by revitalizing its international oil product trading activities in Asia. Conditions for streamlining the Asian oil market include the promotion of measures aimed at deregulating each Asian country s domestic oil market, thus providing the environment in which oil product trading activities can be carried out in a rational manner. Moreover, it is necessary to improve the liquidity and the transparency of the market by introducing new systems such as the spot and futures trading market systems which have been well developed and matured in Europe and the U.S. There are a variety of oil-consuming areas in Asia, but the current Singaporean market does not necessarily represent these oil-consuming areas. The northeast Asian region, including Japan, ROK, Taiwan and China, is a large oil-consuming area, which is comparable with Europe and the U.S., and it is essential first of all to expand oil product trading in this area. When China, which has joined the World Trade Organization, lifts its restrictions on oil product imports is the key factor. India which will have a similar oil demand growth to China and ASEAN countries where Singapore plays central roles, also can be expected to become important oil-consuming areas. These major oil-consuming areas in Asia are urged to act in concert with one another to streamline and expand the oil product market to strengthen and support the formation of product price structures in Singapore. A major structural reform of the oil industry is now beginning to take shape in Japan, too, as a result of the deregulation measures implemented in the 10s, with the establishment of market competition in the domestic market in mind as the central theme at this moment. Oil is undoubtedly projected to continue playing a major role in energy supply and demand in the 21st century. Japan is expected to show its wisdom in streamlining and expanding an international oil market as a common infrastructure so that the strength and opinions of the consuming area can be fully manifested from the Asian point of view. 8

9 (References) [1] Paul Horsnell, Oil in Asia, Markets, Trading, Refining & Deregulation, the Oxford University Press, 17 [2] Petroleum Intelligence Weekly and Oil Market Intelligence, every issue [3] Yoshiki Ogawa, Tadashi Hirayama, Shigeki Kajiwara, Masakatsu Shiobara, Optimum Option for Crude Oil Procurement and Pricing for East Asia, or.jp/en/data/old/pdf/pricing.pdf Contact: 9

10 Annex Singapore Leaded Premium Rotterdam Unleaded Regular 32 US Gulf Unleaded Regular Gasoline Fig. A1 Changes in Spot Prices of Gasoline (12 Months Moving Average) 4 3 Gasoline Singapore - Rotterdam Singapore - US Gulf US Gulf - Rotterdam Fig. A2 Market Differential in Gasoline Spot Prices (12 Months Moving Average) 10

11 Singapore Rotterdam Caribean Naphtha Fig. A3 Changes in Spot Prices of Naphtha (12 Months Moving Average) Singapore - Rotterdam Singapore - Caribean Caribean - Rotterdam Naptha Fig. A4 Market Differential in Naphtha Spot Prices (12 Months Moving Average) 11

12 Singapore Rotterdam US Gulf Kerosene & Jet Fuel Fig. A5 Changes in Spot Prices of Kerosene & Jet Fuel (12 Months Moving Average) 4 3 Kerosene & Jet Fuel Singapore - Rotterdam Singapore - US Gulf US Gulf - Rotterdam Fig. A6 Market Differential in of Kerosene (Jet Fuel) Spot Prices (12 Months Moving Average) 12

13 Singapore S0.5 Rotterdam S0.2 US Gulf S0.2 Gas Oil Fig. A7 Changes in Spot Prices of Gas Oil (12 Months Moving Average) 4 3 Gas Oil Singapore - Rotterdam Singapore - US Gulf US Gulf - Rotterdam Fig. A8 Market Differential in of Gas Oil Spot Prices (12 Months Moving Average) 13

14 Singapore S0.3 Rotterdam S1.0 LS Reisidual 26 US Gulf S Fig. A9 Changes in Spot Prices of LS Residual (12 Months Moving Average) Sigapore - Rotterdam Singapore - US gulf US Gulf - Rotterdam LS Residual -4 Fig. A10 Market Differential in LS Residual Spot Prices(12 Months Moving Average) 14

15 30 28 HS Residual Singapore S3.0 Rotterdam S3.5 US Gulf S Fig. A11 Changes in Spot Prices of HS Residual (12 Months Moving Average) 5 4 HS Residual Singapore - Rotterdam Singapore - US Gulf US Gulf - Rotterdam Fig. A12 Market Differential in HS Residual Spot Prices(12 Months Moving Average) (Source) Fig. A1 to A12 is made by highly processing data on every issues of Petroleum Intelligence Weekly and oil market intelligence. 15