Oil Market Report: 10 September 2009

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Highlights

  • Global oil demand is revised up nearly 0.5 mb/d for both 2009 and 2010, to 84.4 mb/d and 85.7 mb/d respectively, mostly on stronger-than-expected data in OECD North America and non-OECD Asia.  The global economy is stabilising, but OECD demand is poised to remain weak for the remainder of this year, while seemingly strong non-OECD demand may be obscured by Chinese stock building.
  • August global oil supply was down 400 kb/d from July to 84.9 mb/d, on lower non-OPEC output.  Total non-OPEC estimates for 2009 and 2010 are unchanged versus last month, averaging 51.0 mb/d in 2009 and 51.5 mb/d in 2010. OPEC NGL averages 5.2 mb/d and 6.1 mb/d respectively.
  • OPEC crude oil supply in August was up 55 kb/d at 28.8 mb/d.  OPEC-11 output rose by 80 kb/d to 26.3 mb/d, or 1.4 mb/d over target.  OPEC met in Vienna as this report went to press, with discussions on better compliance seemingly more likely than a further target cut.  The 'call on OPEC crude and stock change' is revised up to 28.3 mb/d for 3Q09 and to 27.9 mb/d in 4Q09 on the more robust demand forecast.
  • Global refinery crude run projections for 3Q09 are also revised up this month to 72.1 mb/d, an increase of 0.2 mb/d from last month's report, due to higher demand estimates and a lower US hurricane adjustment.  Nonetheless, runs remain pressured by poor refining margins.
  • OECD industry stocks rose by 12.8 mb in July, to 2,778 mb, 4.6% above last year's level.  Middle distillate increases in all three regions, particularly North America, outweighed a decrease in both gasoline and fuel oil stocks.  End-July forward demand cover was unchanged versus June at 61.8 days.
  • Benchmark crude oil prices rose $7/bbl on average in August, to around $71-73/bbl.  Arguably, prices have tested limits and trade in a $68-74/bbl price range for now.  Future price direction will hinge partly on how long the distillate overhang persists.

Two steps forward, one step back

Marker crudes averaged $71-$73/bbl in August, up by 10% from July, although prices weakened again in early September.  Crudes' relative resilience stands in contrast to the collapse in US natural gas prices (see below).  Economic prognoses from the OECD and IMF are being revised higher, while baseline oil demand in the US, China and other Asia appears to be running stronger than preliminary estimates suggested.  At the time of writing, ahead of OPEC's 9 September meeting, the combination of relatively high prices and tentative signs of economic recovery were widely seen likely to encourage the group to leave crude production targets unchanged.

Economic expectations, a weak dollar and OPEC curbs have trumped still-sluggish OECD prompt demand, high inventories and widening spare capacity in propping up crude prices, but the price-driving role of paper commodity markets remains a hot topic.  There have been recent hearings on CFTC and SEC oversight for over-the-counter (OTC) derivatives.  The CFTC also moved to improve transparency by rolling foreign trades in the NYMEX crude contract into its weekly Commitment of Traders Report.  Early September saw a further reporting change, with swap dealers now disaggregated from the commercial trader category, and further disaggregation of the former non-commercials category.  There are also plans to eventually add quarterly/monthly reports on index fund investments.  Improved data visibility is welcome, although some question whether the focus on categorising participants, rather than individual trades, has maximised transparency.  Regulators will now address federal government mandated position limits, and the mechanics of standardisation and financial controls on derivatives.

While signs of economic recovery and greater market transparency are positive, our own now-higher demand estimates throw up a statistical headache, implanting in our oil matrix a consistently negative 'miscellaneous to balance' for the past couple of years.  That suggests one or a combination of the following - official demand data are overstated, supplies are running ahead of consensus, or, counter-intuitively, stockdraw outside of readily observable OECD inventory has been under way.  By definition, these are off-radar phenomena, which we will continue to investigate in the weeks and months to come.



Further question marks hang over the coming winter heating season.  Middle distillate markets remain weak, with a stock overhang onshore and offshore.  Indeed the persistent weakness of heating oil and diesel calls into question the depth and durability of fledgling industrial recovery.  Some 60 mb of products, mainly middle distillates, are being held in floating storage, largely off Europe.  Atlantic Basin stock levels could swell further if higher Asian refinery output growth accompanies a resurgence in apparent demand in China and elsewhere that turns out to be more a function of stockpiling than genuine recovery in local consumption.  Crude oil prices have been buoyed in part by OPEC supply curbs, but neither the natural gas nor middle distillates markets are characterised by such concerted attempts at market management.  However, without a sharply colder winter or economic resurgence, logistical constraints or the prospect of sub break-even prices could ultimately curb supplies of both.  As always, greater clarity in some parts of the market goes hand in hand with more uncertainty in others.

Demand

Summary

  • Forecast global oil demand has been revised up by 0.5 mb/d for both 2009 and 2010, largely on the back of stronger-than-expected preliminary data in OECD North America and non-OECD Asia.  There is growing evidence that the global economy may be finally stabilising, with industrial destocking coming to an end, coupled with the effects of large-scale government intervention.  Global demand is now expected to average 84.4 mb/d in 2009 (-2.2% or -1.9 mb/d versus 2008) and 85.7 mb/d in 2010 (+1.5% or +1.3 mb/d year-on-year).  However, despite these upward adjustments, demand is poised to remain weak in the OECD for the reminder of this year, while the underlying strength of non-OECD demand has been obscured by massive stock building in China.  Moreover, the spectre of a double-dip, 'W-shaped' recession, which would undermine oil demand growth next year, cannot be entirely discounted.
  • Forecast OECD oil demand has been increased by roughly 270 kb/d for both 2009 and 2010, given higher-than-expected 2Q09 data and indications that 2H09 demand may be stronger than previously anticipated, notably in North America.  These revisions have largely been carried through to next year.  Oil demand is now predicted to fall by 4.7% year-on-year (-2.2 mb/d) to 45.4 mb/d in 2009, and grow marginally (+0.1%) in 2010.  However, there is considerable uncertainty regarding the prospects of a sustained US economic recovery.  The country's extremely weak gasoline demand readings were only briefly interrupted in the early summer, suggesting that people opted to drive for summer vacation rather than to take more expensive holidays involving air travel; meanwhile, diesel demand - strongly correlated to economic activity - has continued to decline at double-digit rates.


  • Forecast non-OECD oil demand has been adjusted up for both 2009 and 2010, largely due to another reappraisal of Chinese demand prospects, which have been boosted by government stimuli measures and by significant stock building.  In addition, demand data for the FSU and Latin America have also turned out to be higher than previous submissions.  Demand in 2009 is now expected to average 39.1 mb/d (+0.9% or +0.4 mb/d year-on-year and +220 kb/d higher when compared with our previous assessment).  The revision for 2010 is only slightly lower (+170 kb/d), with demand seen averaging 40.3 mb/d (+3.2% or +1.2 mb/d versus the previous year).
  • Recent reported oil product stocking complicates the assessment of China's demand picture.  The lack of detailed inventory data renders the outlook prone to both upside and downside risks.  Forecast demand for 'other products', which has largely driven overall oil demand growth in the past few months on the back of government stimulus measures, could be understated.  By contrast, forecast demand for gasoline and gasoil could be overstated, despite attempts to account for stock builds based on the limited information that is currently available.

Global Overview

Preliminary data for both June and July indicate that global oil demand was stronger than previously expected, largely because of higher readings in OECD North America and non-OECD Asia.  Demand in 2Q09 has thus been raised by almost 0.5 mb/d, while 2H09 demand looks set to exceed previous estimates by as much as 0.7 mb/d.  As such, our demand forecast has been revised up by roughly 0.5 mb/d for both 2009 and 2010.  At first glance, this would validate the perception of an ongoing, stronger-than-expected global economic recovery.  Several large OECD economies - France, Germany and Japan - have confounded most observers by technically emerging out from recession; China is seemingly roaring ahead; several other Asian countries such as India and Korea are faring relatively well; and a handful of key indicators in the US have turned out to be slightly better than anticipated.



Yet, as much as these signs of recovery are welcome, closer analysis suggests that the demand picture is far from clear-cut.  Overall global demand growth remains well in negative territory.  On an annual basis, demand was still down by 0.5% in June and by 2.3% in July.  On a quarterly basis, 2Q09 global demand was 2.6% below last year's levels, while 3Q09 demand could be some 1.8% lower.  Even 4Q09 demand is set to decrease by 0.9% year-on-year, despite the expected improvement in global economic conditions and relative to last year's extremely low base.  Aggregated transportation fuel demand was slightly positive in June, for the first time since last October, but this appears to have been short-lived, while demand for all other product categories, albeit markedly stronger than in late 2008, still trails well below levels of a year ago.

Demand in the OECD remains extremely weak; in fact, the region's 6.1% year-on-year fall in 2Q09 was the largest since the outbreak of the recession.  Even accounting for the upward revisions, OECD demand is set to contract by 4.7% year-on-year or 2.2 mb/d in 2009.  As such, the demand rebound has been almost exclusively driven by non-OECD countries, where aggregate 2009 demand is poised to rise by 0.9% or 0.4 mb/d versus 2008.  Furthermore, the revisions to demand estimates are largely due to the largest oil consumers - i.e., the US and China.  In the former, weekly to monthly adjustments have been relatively large and sometimes unexpected in terms of direction over the past few months.  More importantly perhaps, changes in the latter have been due for the most part to massive stock building that, as discussed later in this report, nurtures doubts regarding the underlying strength of Chinese oil demand - and hence of market fundamentals, given prevailing OECD demand weakness and bulging inventory levels, notably of distillates.  Nonetheless, non-OECD countries are expected to account for virtually all of next year's 1.3 mb/d rebound in global demand.

There is still considerable uncertainty concerning what has been dubbed by some observers as the 'phoney recovery'.  The recent economic rebound has been essentially due to the completion of the massive inventory adjustment triggered by last year's financial panic, on the one hand, and to substantial government intervention, on the other, more than to the revival of sustained private demand, which remains feeble.  Optimists argue that the spectre of a double-dip sometime next year (a 'W-shaped' economic outlook), which would undermine oil demand, is highly unlikely, given the unique nature of this recession - last fall's near meltdown of the financial system, first in the US and then worldwide - and the massive government intervention that followed it.  From this perspective, these events are unlikely to recur, and policy actions preclude a worldwide stagnation as seen in Japan, for example, during most of the 1990s.



Pessimists, by contrast, contend that several factors point towards an anaemic recovery or even a relapse: the persistent fragility of the global financial sector despite the effective nationalisation of banking losses; high and rising unemployment, notably in the OECD; weak private demand, unlikely to take the slack if and when government stimuli are withdrawn; poor private-sector profitability and deflationary pressures; persistent global current-account imbalances; the potential emergence of government-induced bubbles in some large economies such as China; and, last but not least, rising commodity prices.  In sum, economic weeds are still sprouting alongside a rising number of welcome green shoots.

OECD

According to preliminary data, OECD inland deliveries (oil products supplied by refineries, pipelines and terminals) contracted by 5.5% year-on-year in July, with all three regions recording losses for the fifteenth month in a row.  In OECD Pacific, demand plummeted by 7.0%, dragged down by softening middle distillate demand.  In OECD Europe, demand sank by 5.6% year-on-year, with all product categories posting losses.  In OECD North America (which includes US Territories), oil product demand fell by 4.9%, with all product categories bar 'other products' posting losses.

However, revisions to June preliminary data were substantial (+970 kb/d), as stronger-than-anticipated demand for LPG, gasoline, distillates and 'other products' offset weaker deliveries of residual fuel oil.  Overall, June demand shrank by 3.5% year-on-year, about a third less than previously expected.  Although these data lend credence to the view that the global recession is easing, OECD demand is set to contract for the rest of the year, albeit at a lower pace as economic conditions gradually improve.  As such, the estimates of OECD oil demand for this year and the next have been revised up by some 270 kb/d when compared with last month's report.  Demand is now expected to contract by 4.7% in 2009 to 45.4 mb/d and grow marginally in 2010 (+0.1%).







North America

Preliminary data show that oil product demand in North America (including US Territories) shrank by 4.9% year-on-year in July, the nineteenth consecutive monthly contraction.  All three countries posted sharp contractions, but the United States continues to lead in terms of the pace of oil demand decline.

Meanwhile, June's revisions to preliminary data were hefty (+820 kb/d), due almost solely to the US, with gasoline, distillates and 'other products' featuring higher readings.  Auspiciously, this is the first time since last February that US gasoline is revised up rather than down, although it should be noted that recent US weekly-to-monthly revisions have been somewhat unpredictable in terms of direction as well as to the product categories that have been affected, thus complicating attempts at pre-emptive adjustments.  Overall, total demand in North America fell by 4.1% in June, at almost half the pace estimated in our last report (-7.5%).  With 2Q09 upward changes carried through to the end of the year, demand in 2009 is now estimated at 23.1 mb/d (-4.4% or -1.1 mb/d versus 2008), while demand in 2010 is seen rising to 23.3 mb/d (+0.8% or +0.2 mb/d year-on-year).  Both prognoses are some 180 kb/d higher when compared with our last report.





Preliminary weekly data in the continental United States indicate that inland deliveries - a proxy of oil product demand - contracted by 4.1% year-on-year in August, with all product categories bar LPG and 'other products' featuring continued weakness.  Given the continued rise in unemployment and subdued private spending, it is unclear whether the world's largest economy is on the path of recovery, and even then, a rebound looks more likely to be anaemic rather than vigorous.



For example, June's surprising jump in gasoline demand (+1.5% year-on-year) appears to have been followed by a resumption of the steep downward trend observed in previous months, if unadjusted weekly data for July and August are of any guide.  This would provide further evidence that, for the second year in a row, US motorists were deterred by rising gasoline prices and poor economic conditions.  Admittedly, however, the weak gasoline preliminary readings in August (-2.3% year-on-year) may have been amplified by the fact that the previous year's demand had been boosted by emergency purchases ahead of Hurricane Gustav, notably in the Gulf Coast.  The June spike itself, meanwhile, may well be explained by the so-called 'staycation' phenomenon, i.e. driving to nearby summer vacation spots rather than opting for more expensive holidays involving air travel - jet fuel demand, indeed, was 12.6% down on an annual basis in June.  If so, the increase in the average daily vehicle-miles travelled during that month (+1.9% year-on-year) would be more reflective of continuing personal income woes than of a reviving economy.

Furthermore, diesel demand - strongly correlated to economic activity - has continued to decline at double-digit rates (-11.8% year-on-year in August).  Regarding other product categories, with US natural gas prices falling below $3/mmbtu, prospects for heating oil and fuel oil demand recovery are increasingly muted.  Thus, although we have revised up our estimates of US oil demand for this year and the next by roughly 160 kb/d, the outlook has scarcely improved, with demand averaging 18.6 mb/d in 2009 (-4.6% year-on-year) and 18.8 mb/d in 2010 (+0.9%).

Europe

According to preliminary inland data, oil product demand in Europe plummeted by 5.6% year-on-year in July.  All product categories posted losses, but the fall was mostly driven by weaker-than-expected demand for naphtha, heating oil and residual fuel oil.  At first glance, the weakness in the demand for naphtha (-11.8%), a key industrial fuel, contrasts with the apparent end of the recession in France and Germany, two of the continent's largest economies, where 2Q09 quarter-on-quarter GDP growth was slightly positive.  However, on an annual basis, economic output in both countries is well below last year's levels.  In addition, the other three large countries (Italy, Spain and the UK) remain firmly anchored in recession.  Heating oil demand, meanwhile, was dragged down by lower deliveries in Germany and France, while residual has been probably partly displaced by cheaper natural gas, with prices now reflecting the slump in crude prices earlier this year (natural gas prices tend to lag those of crude by around six months).



Revisions to June data, largely due to stronger-than-expected diesel demand, were relatively modest (+90 kb/d), suggesting that overall oil product demand fell slightly less than expected during that month (-2.8% instead of -3.4%).  As such, Europe's demand outlook has been revised up for the reminder of this year, notably in 4Q09, in order to account for stronger-than-expected data submissions and assuming a marginally quicker economic recovery in several large countries, with the adjustment largely carried through to next year.  Demand is now seen at 14.7 mb/d in 2009, implying a contraction of 4.1%, and only slightly lower in 2010 (-0.2%).



German demand fell sharply in July (-10.8% year-on-year), according to preliminary data, as heating oil deliveries virtually dried up (-31.5%), naphtha plummeted counter-seasonally (-18.0%) and residual fuel oil (-14.8%) was displaced by cheaper natural gas supplies.  The fall in the pace of heating oil deliveries had been expected, with consumer stocks rapidly approaching their maximum historical fill of around 75% of capacity (stocks reached 66% of capacity by end-July, compared with 49% in the same month of the previous year and 64% in June).  The fall in naphtha demand, which is mostly used in industrial applications, is more surprising, as it does not tally with claims of an ongoing economic recovery, triggered by the modest quarter-on-quarter GDP growth.  The fact that industrial production declined by roughly 19% year-on-year in 2Q09 is a sobering reminder that Europe's largest economy is not out of the recessionary woods yet.





In France, oil product deliveries also fell sharply in July (-7.8% year-on-year) on the back of much lower-than-expected demand for naphtha and softening heating oil and residual fuel oil demand, largely mirroring German developments.  By contrast, the relative strength of diesel demand (+2.9%) and the continued weakness in jet fuel deliveries (-6.4%) suggests that, as in the US, 'staycation' effects were at play.  A similar trend occurred in Italy, with diesel demand rising by 1.4% (for the first time since December) and jet fuel deliveries plunging by 7.8%.

Pacific

According to preliminary data, oil product demand in the Pacific fell for the thirteenth month in a row in July (-7.0% year-on-year), with all product categories bar gasoline and heating oil recording continued losses.  Moreover, the rate of decline accelerated relative to the previous month, dragged down by Japan, the region's largest economy, despite having technically escaped recession (it grew modestly from 1Q09 to 2Q09, although the country's GDP continued to fall on a yearly basis).  By contrast, the Korean economy continues to show remarkable resilience, and could well become the only large OECD country that managed to avoid recession altogether, having contracted only in 4Q08 and being set to expand uninterruptedly during all of 2009.



Revisions to June preliminary data were modest yet positive (+60 kb/d).  Demand thus contracted slightly less than previously expected (-2.8% versus -3.6%).  The outlook, meanwhile, has been inched up by roughly 30 kb/d for this year and the next, owing to expectations of stronger Korean demand.  OECD Pacific demand is now seen averaging 7.5 mb/d in 2009 (-6.8% versus 2008) and 7.4 mb/d in 2010 (down by 1.7% compared with the previous year).



According to preliminary data, Japanese oil demand contracted by 12.9% year-on-year in July, almost twice as much as the pace of upwardly revised June readings (-7.3%, instead of -8.2%).  This renewed weakness, largely due to softening demand for naphtha (-7.7%), diesel (-10.5%) and direct crude use for power generation (included in 'other products'), which shrank by 53.8%, is somewhat at odds with the modest 2Q09 economic improvement, mostly driven by a timid resumption of exports, notably to China.  Albeit the country has technically emerged from recession by posting quarter-on-quarter GDP growth, industrial activity and other leading indicators remain well below last year's level, thus explaining the continued weakness in naphtha and diesel deliveries.  Subdued direct crude burning, meanwhile, reflected lower electricity demand (due to the economic downturn and cooler temperatures relative to the previous year), higher nuclear generation and cheaper LNG supplies.

We have kept our Japanese demand forecast largely unchanged, although the newly elected Democratic Party of Japan (DPJ) has promised to remove the 36-year old, 25 yen/litre (roughly $43/bbl) gasoline tax levied on refiners, which serves to finance road construction and maintenance.  Such a move would arguably result in lower retail prices and somewhat offset the structural decline in gasoline demand, as in early 2008, when the tax was briefly scrapped.  However, many observers are sceptical regarding the new government's fiscal room to manoeuvre.  Indeed, lower revenues - and hence spending - could hinder the nascent economic recovery.  That said, if the measure comes to pass we may revise our oil demand outlook.



Oil demand in Korea, contrary to virtually all other OECD countries, continues to feature impressive strength, rising by 2.3% year-on-year in July on the back of strong deliveries of naphtha, gasoline and diesel.  As noted, the country's recovery appears to be quite solid, as a result of a large fiscal stimulus package (almost 6% of GDP), which has been heavily front-loaded (some two-thirds of it were reportedly spent in 1H09).  Korea's industrial production rose by 0.7% year-on-year in July - the first positive growth rate since September 2008.  In absolute terms, it has almost reached the levels of late 2007/early 2008 (by contrast, industrial production in Japan was almost 23% down in July).

Non-OECD

China

Preliminary data indicate that China's apparent demand (refinery output plus net oil product imports, adjusted for fuel oil and stock changes) rose by 5.8% year-on-year in July to almost 9.0 mb/d, with all product categories with the exception of gasoil posting strong gains.  This marks the fourth consecutive month of strong demand growth, arguably largely driven by a government-induced economic rebound.  Other factors, though, are also at play.

First, as we have argued in recent months, hoarding ahead of expected price movements has made it difficult to ascertain underlying demand trends.  As had been widely expected, on 2 September the National Development and Reform Commission (NDRC) increased gasoline and gasoil 'guidance' (or ceiling) prices by 4.6% and 5.2%, respectively.  This partially mirrored August's rise in the crude basket price upon which the retail price mechanism is based (the average price of the basket itself, which includes Brent, Dubai and Cinta crudes, had increased by about 7% since the last adjustment on 28 July).  The only novelty was that the price change did not occur on 27 August, which marked the 22nd consecutive working-day fluctuation of the basket's rolling average price (in principle, a sustained variation above 4% over such a period should, according to the rules, trigger an adjustment).

The NDRC is clearly intent upon ensuring the credibility of the price mechanism, introduced in early 2009.  There have been already five price adjustments this year, compared with an annual average of only two over 2006-2008, a period when international oil prices increased sharply.  Yet, as we noted last month, the very predictability of these changes has enticed refiners and distributors to stock or destock, depending on international price movements.  The recent minor delay in implementing the latest price adjustment could be interpreted as an attempt to curb speculative behaviour, but equally might simply reflect administrative hurdles.  Absent pressing 'social and economic factors' that would justify maintaining the status quo - such as inflationary concerns, for example - a deferral would encourage increases in refinery runs (given still attractive margins, despite the relatively moderate hike) and product stocking, as in the month leading up to the first June adjustment - and the more so if international oil prices are expected to rise further.  The fact that the NDRC did not invoke the upcoming 60th anniversary of the Communist Revolution on 1 October as a strong reason to postpone the price hike tends to reinforce the impression that the authorities plan to stick to the current price regime.



Second, a large portion of the recent burst of oil demand growth has been driven by 'other products', which comprise bitumen, lubricants and coke, among others.  This category, which has accounted for roughly two-thirds of China's total average annual demand growth over the past four months (almost +600 kb/d), now stands almost 30% above levels of a year ago, with both refinery output and net imports rising sharply.  This trend appears to confirm reports of extensive construction of new roads, airports and railways under the fiscal stimulus plan (thus requiring, among other raw materials, significant asphalt volumes), as well as a resumption of aluminium production (which necessitates coke) and booming vehicle sales (which drive lubricant demand).



Assessing Actual Chinese Oil Demand Growth

How strong is Chinese oil demand?  The answer to this question, which is relatively straightforward in most other large consuming countries, remains elusive.  Indeed, not only has recent reported oil product stockpiling distorted China's demand picture, but also the lack of detailed inventory data makes it difficult to assess the underlying demand trend and seriously complicates the forecasting exercise.

class="Box">On the one hand, the outlook faces upside risks.  As long as the government stimulus measures remain in place, oil demand for some products will most likely continue to rise markedly.  This, as noted earlier, can clearly be seen in the unprecedented spike in the 'other products' category, which is now largely driving total Chinese demand growth.  Assuming that the stimuli are gradually withdrawn, that demand will tend to follow patterns observed in previous years of strong economic growth and that part of the recent growth is related to inventory builds, we forecast that 'other products' demand will gently decline in 2H09 and expand moderately in 2010.  Yet this outlook could well prove wrong if government spending remains unabated or if stocks for this product category happen to be low or even negligible.

On the other hand, the inflation of demand estimates by reported product stocking poses downside risks to the forecast.  Indeed, storage could reach a capacity limit.  Oil prices could fall.  Alternatively, if international prices were to rise further, the government could be tempted to suspend the price mechanism (the NDRC has recently declared that even though it will continue to adhere to the principles of the price mechanism, it will only adjust domestic prices when necessary).  All three occurrences would likely trigger a large destocking movement and depress apparent demand, which could even register negative growth rates despite the country's renewed economic vigour.  We are attempting to account for inventory builds based on the limited information on gasoline and gasoil stocks for the largest state-owned companies provided by China Oil, Gas and Petrochemicals (OGP), but it could well be that our assessment of future demand for both products is too high.

Taking into account all the above - and contradictory - elements, we have revised up our forecasts for this year and the next by roughly 140 kb/d.  On that basis, Chinese oil demand is now expected to rise by as much as 4.6% to 8.3 mb/d in 2009, and by 4.0% to 8.6 mb/d in 2010.  Without more detailed data, and in the face of likely continuing oil price volatility, demand projections will remain prone to substantial revisions.

Other Non-OECD

India's oil product sales - a proxy of demand - rose by 3.4% year-on-year in July, according to preliminary data.  The pace of growth was two-thirds lower than the one recorded in the previous month, when poor monsoon rains boosted gasoil demand.  Nonetheless, drought conditions prevailed in some areas during July, notably in northern states, and demand for gasoil - mostly used for irrigation and electricity generation - remained relatively strong (+10.8% year-on-year).  Gasoline demand was also buoyant, rising by +11.0%, with car sales surging for the sixth consecutive month.  The offsetting factor was naphtha demand, which plummeted by 19.4% given greater availability of natural gas from Reliance Industries' offshore D6 block in the Krishna-Godavari basin.  However, the much-publicised dispute regarding the price of D6's gas may jeopardise the block's production plans and, as such, naphtha demand could rise again.

Our Indian outlook remains unchanged, with oil demand expected to grow by 3.8% year-on-year to 3.3 mb/d in 2009, and by 3.4% to 3.4 mb/d in 2010, assuming normal monsoons.  However, there are now downside risks to this forecast.  The severe drought could shave as much as one percentage point from this year's GDP growth, according to some observers.  Others argue that, irrespective of the drought, the Indian government may be obliged to tighten macroeconomic policy given mounting inflationary pressures.  In both cases, oil demand growth could slow down.





Demand for direct-burning crude in Saudi Arabia, included in the 'other products' category, has reached new highs.  Following the surge in both April and May (+51.5% and 90.5% year-on-year, respectively), 'other products' demand jumped by 84.4% in June to roughly 850 kb/d, the highest level ever attained.  This boosted overall oil demand, which posted again double-digit growth (+15.2%).  Direct crude, which accounts for about two-thirds of 'other products' demand and is used mostly in power plants, thus continues to displace fuel oil, which fell sharply again (-26.3%).  As such, we have slightly revised up our forecast for 2009 oil demand growth to +5.9% versus 2008, compared with +5.6% in our last report.  As this adjustment has not been carried through to next year, demand growth in 2010 has been marginally adjusted down to +3.9%.





In Iran, the recent political turmoil after the June presidential elections, coupled with slowing economic activity and gradual interfuel substitution in power generation (from gasoil to natural gas) has taken its toll on overall oil demand.  Demand contracted sharply in both May and June (-10.8% and -9.5% year-on-year, respectively.  In particular, gasoline demand - which accounts for over a quarter of total oil consumption - contracted by 11.8%.  The country's demand outlook is difficult to predict, as much will depend on domestic political and economic dynamics.  At this point, we expect Iran's oil demand to contract by 3.9% year-on-year in 2009 to 1.8 mb/d.  In 2010, assuming that the economy rebounds, growth could be as high as 5.0%, with demand reaching 1.9 mb/d.





Supply

Summary

  • Global oil supply in August was down almost 400 kb/d to 84.9 mb/d, with a 450 kb/d decline in non-OPEC production partially offset by a modest increase in OPEC output.  Global oil supply is down by 1.25 mb/d from August 2008.  The comparison with a year ago is partially skewed because supply in 2008 was much lower than normal due to extensive North Sea maintenance work as well as an explosion on the Baku-Tbilisi-Ceyhan (BTC) pipeline.
  • Non-OPEC supply estimates for 2009 and 2010 were left unchanged compared with last month's projection, and output is expected to grow from 51.0 mb/d to 51.5 mb/d next year.  For both years, upward revisions to Russia, China and the US in particular offset downward adjustments to Canada, OECD Europe and Brazil.
  • Non-OPEC output is holding up better than expected early in the year following the return to higher prices, optimism about global economic recovery and indications that upstream development costs are falling, combined with a series of quicker than expected field start-ups.  While the first Atlantic tropical storms of the season touched Canada's Atlantic coast, none had any impact on upstream operations there, and the US Gulf of Mexico has so far been unscathed.
  • OPEC crude oil supply in August was up by a marginal 55 kb/d to 28.9 mb/d on higher production from Nigeria, Venezuela and Angola.  Production by the 11 members with output targets, which excludes Iraq, rose by 80 kb/d, to 26.3 mb/d.  The OPEC-11 grouping is now producing about 1.40 mb/d over the 24.845 mb/d output target.  The higher output levels in August lowered the group's compliance rate to around 66%, compared with 68% in July.
  • OPEC ministers were scheduled to meet on 9 September in Vienna as this report went to press. Indications prior to the meeting suggested better compliance rather than a further target cut was on the agenda before the formal start of the meeting, scheduled for late evening in observance of Ramadan.  OPEC's effective spare capacity is estimated at 5.47 mb/d versus 5.48 mb/d in July, with Saudi Arabia accounting for 62% of the surplus at 3.4 mb/d.
  • The 'call on OPEC crude and stock change' is revised up by 0.6 mb/d, to 28.3 mb/d for 3Q09 and by 0.6 mb/d to 27.9 mb/d in 4Q09 on a more robust demand forecast.  As a result, the call for 2009 increases by 0.5 mb/d, to 28.2 mb/d and by 0.4 mb/d to 28.2 mb/d for 2010.


All world oil supply figures for August discussed in this report are IEA estimates.  Estimates for OPEC countries, Alaska and Russia are supported by preliminary August supply data.

Note:  Random events present downside risk to the non-OPEC production forecast contained in this report.  These events can include accidents, unplanned or unannounced maintenance, technical problems, labour strikes, political unrest, guerrilla activity, wars and weather-related supply losses.  Specific allowance has been made in the forecast for scheduled maintenance in all regions and for typical seasonal supply outages (including hurricane-related stoppages) in North America.  In addition, from July 2007, a nationally allocated (but not field-specific) reliability adjustment has also been applied for the non-OPEC forecast to reflect a historical tendency for unexpected events to reduce actual supply compared with the initial forecast.  This totals ?410 kb/d for non-OPEC as a whole, with downward adjustments focused in the OECD.

OPEC Crude Oil Supply

OPEC crude oil supply in August was up by a marginal 55 kb/d to 28.81 mb/d.  Higher production from Nigeria, Venezuela and Angola offset lower output by Saudi Arabia, Iran and Iraq.  July output was revised up by 110 kb/d to 28.75 mb/d.  Production by the 11 members with output targets, which excludes Iraq, rose by 80 kb/d, to 26.25 mb/d.  The OPEC-11 grouping is now producing about 1.40 mb/d over the 24.845 mb/d output target.  The higher output levels in August lowered the group's compliance rate to around 66% compared with 68% in July.

Better compliance with output targets is reportedly on OPEC's agenda for the 9 September meeting in Vienna.  This report went to press before the formal start of the meeting, scheduled for late evening in observance of Ramadan.  Unusually, representatives from non-OPEC oil producing countries that traditionally attend OPEC's ministerial conferences have not been invited this time with the meeting falling during Ramadan.

At the time of writing, pre-meeting comments suggested member countries would opt to roll over current output targets while at the same time renew calls for greater target compliance among overproducers.  OPEC-11 members in August have collectively cut 2.79 mb/d, about two-thirds of the 4.2 mb/d in cuts agreed since last September.  OPEC's effective spare capacity is estimated at 5.47 mb/d versus 5.48 mb/d in July, with Saudi Arabia accounting for 62% of the surplus at 3.4 mb/d.



Despite concerns over stubbornly high global oil stocks, a consensus appears to have emerged among OPEC members to maintain existing output targets.  OECD crude oil stocks reached 61.8 days of forward cover in July, or about 10 days higher than the five-year average of 52 days OPEC has said it would prefer stock level.  However, any further cut in output would largely be borne by producers already adhering to output levels, and it is unclear whether these members would be willing to shoulder the burden while others, such as Iran and Angola flout target levels.

Iran, Angola and Venezuela look to have turned a blind eye to their output targets, which collectively account for just over 65% of overproduction since January.  Since the start of the year, when OPEC implemented its last target cut, Iranian production is down on average by 138 kb/d compared with its 562 kb/d target reduction.

However, against a backdrop of the fragile economy and mindful of any discord among members over output levels could undermine its credibility, OPEC was expected to brush aside compliance issues at the September meeting.  OPEC will meet again to review the market on 22 December in the Angolan capital of Luanda.

Saudi Arabia lowered output in August to around 8.2 mb/d, from a revised 8.24 mb/d in July.  Tanker data show exports have been holding flat over the past few months, with above quota output earmarked for internal use at power plants during the peak cooling season.

Iraq maintained production last month at 2.56 mb/d, just shy of July's post-war high, with higher exports from the south offset by lower shipments from the country's northern region.  Output (measured as exports plus domestic use) was 30 kb/d below an upward revised 2.59 mb/d for July.  The 70 kb/d revision for July reflects higher estimates for domestic refinery use and crude burned at power plants, rather than a change in export volumes.  Domestic crude use is estimated at 550 kb/d, including around 80 kb/d for power generation, for both July and August.

Total Iraqi oil exports in August were down 25 kb/d, to 2.01 mb/d, from the previous month.  Exports of Basrah crude from the south were up 18 kb/d, to 1.51 mb/d. Exports of Kirkuk crude fell 43 kb/d, to 492 kb/d in August. An additional 10 kb/d was exported to Jordan.



Nigerian supply rose by 60 kb/d, to 1.74 mb/d on higher production from the offshore EA field and resumption of production of around 100 kb/d from the Escravos facility.  Negotiations between government officials and rebel groups over details of the amnesty programme faced another setback after the main militant group, the Movement for the Emancipation of the Niger Delta (MEND), suspended negotiations with government officials.  MEND announced it was ending its 60-day ceasefire agreement effective 15 September and would resume its attacks on the oil facilities.  The majority of MEND rebels rejected the government's amnesty proposal to turn in weapons in exchange for cash and an unconditional pardon, with only several hundred rebels participating in the programme.  The amnesty offer officially ends on 4 October.  A similar government amnesty program offering cash in exchange for weapons under then President Obasanjo in 2004 proved ineffective in reducing militant activity.

Angolan production rose 20 kb/d, to 1.78 mb/d due to completion of repairs at several facilities last month.  However, technical issues at the recently launched Gimboa field disrupted operations in August.  Since January, Angolan output is down on average by 50 kb/d versus the implied 244 kb/d cut called for under OPEC guidelines.

Venezuelan output rose by 50 kb/d in August, to 2.21 mb/d, after lifting output restrictions on its extra-heavy oil projects in the Orinoco belt.  Upgraded extra-heavy Orinoco oil averaged 450 kb/d in August, and reportedly reached 500 kb/d by end-month as upgrading facilities came back online.  As part of its OPEC commitments, Venezuelan output is down by about 250 kb/d since last September's production levels compared with its implied target cut of around 379 kb/d.

Venezuela's four upgrading plants, which turn the extra-heavy crude and bitumen of between 8-9 API gravity into lighter crude, have a nameplate capacity of around 600 kb/d.  However, market reports said a 40-day shut-in was planned at the 190 kb/d PDVSA-Chevron Petropiar upgrader from 15 September due to maintenance work.

Meanwhile, the much-delayed bidding round for the country's Carabobo project in the Orinoco has been postponed indefinitely. The tender, the first in more than ten years, has drawn widespread interest but potential bidders have indicated the contract terms being considered are too vague and the tax and royalty regime unattractive given the staggering costs the partner companies would have to bear. There are seven blocks on offer, which could potentially produce 800 kb/d of upgraded oil, but each of the integrated upstream and upgrading projects could cost anywhere from $10-20 billion.  PDVSA officials are reportedly reviewing contract terms.

Non-OPEC Overview

In August, total non-OPEC oil supply dipped by 450 kb/d to 50.7 mb/d from July, but was 770 kb/d higher year-on-year.  Compared with last month's report, 2009 and 2010 production forecasts are left virtually unchanged, with output expected to grow from this year's estimated 51.0 mb/d to 51.5 mb/d in 2010.  However, the unchanged headline totals mask the fact that revisions to individual regions and countries were in some cases quite substantial. For both years, upward revisions to Russia, China and the US in particular offset downward adjustments to Canada, OECD Europe and Brazil.



While the first Atlantic tropical storms of the season (and one hurricane - Bill) appeared, none had any impact on upstream operations offshore Canada's Nova Scotia and Newfoundland, let alone the US Gulf of Mexico.  In the latter case, the absence of any storm-related shut-ins led to proportional upward revisions to the forecast, as we usually assume a degree of reduced production on the basis of five-year average volumes shut in (prior to this month, -600 kb/d for September).



Non-OPEC production is holding up better than projected earlier in the year.  A combination of a return to higher prices, optimism about global economic recovery and indications that upstream development costs are falling have contributed to stronger-than-expected growth in oil production (as has a series of earlier-than-anticipated field start-ups).  For instance, the brighter outlook and substantially lower natural gas prices appear to be prompting a rethink about new Canadian oil sands projects.  Only six months ago, we reported that the vast majority of upstream projects put on hold due to the collapse in the global economy, oil demand and prices, were in Canada (see the 2009 Edition of the Medium-Term Oil Market Report [MTOMR]).



Now Imperial has announced it will after all go ahead with a 30 kb/d expansion of its Cold Lake complex, while PetroChina has shown an interest in buying a large stake of the Athabasca Oil Sands.  More generally speaking, Petro-Canada's merger with Suncor appears to be an attempt to drive down costs and increase strategic heft in an otherwise uncertain market.  Meanwhile, in the US, rig counts appear to have bottomed out, after falling sharply earlier in the year - though it is becoming increasingly evident that the larger part of the dip was due to fewer rigs drilling for gas.



OECD

North America

US - Alaska - August actual, others estimated:  US production was nudged up slightly for both 2009 and 2010, as the first storms of the season failed to have an impact on Gulf of Mexico oil production.  The absence of any damage by early September prompted the reduction of assumed monthly hurricane adjustment volumes, based upon the five-year average amount shut-in.  This caused an upward revision for September of 200 kb/d (and +75 kb/d for August).  NGL and fuel ethanol production were also slightly higher than expected, while other crude-producing regions disappointed.  In Alaska, seasonal Prudhoe Bay maintenance was still ongoing in August, causing output to be lower than expected, while in the Gulf of Mexico, the Eugene Island crude pipeline will likely remain closed until end-September following a leak, shutting-in around 20 kb/d.  Total US oil production is now forecast to rise 380 kb/d to 7.9 mb/d in 2009 and another 200 kb/d to 8.1 mb/d in 2010 - its highest level since 1999, largely based on growth from the Gulf of Mexico.



Canada - Newfoundland - July actual, others June actual:  Canadian production was revised down quite strongly for both 2009 and 2010.  With the exception of syncrude from mining operations, June and July production has disappointed in most regions, leading to the downward adjustments.  Partly, this is related to prolonged maintenance.  The White Rose field offshore Newfoundland for example, saw a work-related reduction in output until mid-August, as new wells were attached and its Floating Production, Storage and Offloading (FPSO) vessel was overhauled.  Post-maintenance volumes are also likely to be lower, according to operator Husky.

On the other hand, the start-up date for the neighbouring North Amethyst/South White Rose field - also operated by Husky - has been brought forward to 2Q10, earlier than we were forecasting.  Also close by, the Hibernia AA satellite is now expected to start production in mid-2010.  These two facilities should eventually add 150 kb/d and 25 kb/d respectively.  Tropical storms and Hurricane Bill meanwhile, while grazing Nova Scotia and Newfoundland, caused no loss in output.  The Sable offshore gas platform, which also has some condensate production, was evacuated, but this came at a time when production was in any case shut-in due to seasonal maintenance.  Total Canadian oil production is nonetheless forecast to dip by 75 kb/d to 3.15 mb/d in 2009, as decline in mature, conventional basins is only partly offset by production from oil sands.  In 2010, production should rise marginally to 3.17 mb/d.



Mexico - July actual:  Mexican oil production rose by 50 kb/d in July, as key fields Cantarell and Ku- Maloob-Zaap (KMZ) began to return from maintenance.  But the downward slide seen in recent months is forecast to continue.  State oil company Pemex announced that it had cut its 2009 crude output target from 2.75 mb/d to 2.65 mb/d.  However, as current output is already around 100 kb/d lower, this would require a rise in supply before the end of the year, which in our opinion would only be possible in the unlikely event that production at the giant Cantarell field stabilises, or output elsewhere expands significantly.  Pemex also announced its goal for 2010 was 2.5 mb/d, though again, we are more pessimistic, assuming 2.57 mb/d in 2009 and 2.40 mb/d in 2010, respectively.

North Sea



Norway - June  actual,  July preliminary; UK - May actual, June preliminary; Denmark - July actual:  June and July production volumes in Norway were revised up, as output proved more robust than assumed, thereby prompting an upward adjustment of 20 kb/d for the year.  Some key fields however showed weaker-than-expected performance, contributing to some future downward revisions.  Total 2010 production is now expected to decline by 250 kb/d to 2.03 mb/d.  In the UK, our forecast was left unchanged.  Total production is expected to dip from 2009's 1.49 mb/d to 1.37 mb/d in 2010.  News was however dominated by a flurry of new field start-ups.  Affleck, Ettrick, Shelley and a new well at West Don all started producing recently and should collectively contribute around 65 kb/d.  In Denmark, cracks found in a storage tank forced the shut-in of around 15 kb/d at the Siri offshore platform in early September.  Total crude production in OECD Europe (outside Norway and the UK) is forecast to dip from 2009's 535 kb/d to 510 kb/d in 2010.

Former Soviet Union (FSU)

Russia - July actual, August provisional:  Yet again Russian production surprised on the upside, with August preliminary data coming in 65 kb/d higher than expected.  This time it was largely the start-up of Rosneft's large Vankor field in East Siberia, which led to higher-than-expected output.  Vankor had been scheduled to start production in August, but reports indicate initial volumes are substantially higher than we had anticipated.  This has led us to revise our ramp-up profile for Vankor, thus prompting upward adjustments to total Russian supply of 55 kb/d and 170 kb/d for 2009 and 2010 respectively.  On the other hand, other recent field start-ups including notably Lukoil's Yuzhno Khylchuyuskoye ('YK'), have reportedly nearly reached peak output capacity, suggesting that greenfield increments should slow in coming months - that is, assuming, as we argued in recent reports, that it is indeed new field start-ups that have contributed most to recent growth.



The huge Vankor field start-up opens up a new upstream area for development.  Situated in the far north-western corner of East Siberia - the Krasnoyarsk region - it required the building of a 550 km pipeline southwards to Purpe to connect to existing crude oil infrastructure.  Ultimately, Vankor should contribute as much as 500 kb/d in the middle of the next decade, thus providing the brunt of the volume to be fed into the Eastern Siberia-Pacific Ocean (ESPO) pipeline, the first 600 kb/d stage of which is due to be commissioned in December 2009.

Kazakhstan - July actual:  In Kazakhstan, July data revealed the earlier-than-expected start-up of a planned expansion of Tengiz crude production, with output coming in substantially higher at 500 kb/d.  This boosts total 2009 production by 50 kb/d to 1.52 mb/d.  On the other hand, the first stage of the Karachaganak phase 3 expansion will likely be delayed.  Rather than an early 2010 start-up, we now project additional volumes from 3Q10, later adding 100 kb/d.  Following an expected incremental production of 115 kb/d in 2009, next year output is forecast to stay flat at 1.52 mb/d, as the new volumes outlined above are offset by declining production elsewhere.

FSU net exports decreased by 1.5% or 140 kb/d to 9.37 mb/d on average in July, pulled down by a 2% fall in crude oil exports.  Shipments from Baltic and Black Sea ports were affected by maintenance work on the Russian pipeline network.  Lower export volumes to Germany resulted in an almost 7% drop in Druzhba pipeline deliveries.  A partial offset came from a rise in BTC exports, however BTC volumes then dropped by 3.5%, according to preliminary August data, due to maintenance at the Azeri-Chirag-Guneshli (ACG) offshore field complex, its primary source for crude oil, in the second half of the month.  Overall, data show August crude oil exports rising after the completion of maintenance work on Russian pipeline networks and high oil production.  Loading schedules for September indicate a month-on-month decrease, with shipments closer to June and July levels.  However, loading of a few tankers from the Baltic may be delayed due to a fire at a Transneft oil storage tank in West Siberia.



July product exports remained virtually unchanged at 3.0 mb/d as increases in gasoil and fuel oil exports were offset by a decrease in other products.  Preliminary data indicate gasoil exports, including shipments of 10 ppm diesel to Primorsk, rose further in August, while fuel oil exports decreased.  Russian oil export duties rose slightly by 4.4% in August and 7.5% in September, compared with a 40% jump in July.  In absolute terms, the crude oil export duty stood at $222.0/mt ($30.3/bbl) for August and at $238.6/mt ($32.6/bbl) for September exports.  The duties for light and heavy products were set at $161.9/mt and $87.2/mt in August and at $173.1/mt and $93.2/mt in September.

Other Non-OPEC

Various Non-OPEC Latin America:  In Brazil, June reported data were lower than expected, prompting a slight downward revision across the board.  In Argentina, reported data for June and July were revised down by around 30 kb/d each, while a strike by oil workers in Santa Cruz province cut output by 40 kb/d in August.  Meanwhile, in Colombia, the earlier-than-expected start-up of the Rubiales-Monterrey pipeline should enable a boost to production of around 40 kb/d, leading us to nudge up our output forecast.  Total oil production in Latin America is revised down by around 25 kb/d and 15 kb/d respectively for 2009 and 2010, but is still expected to grow by 300 kb/d, from 4.37 mb/d in 2009 to 4.67 mb/d in 2010, the vast majority of which stems from incremental volumes in Brazil.

Various Non-OPEC Africa:  In Gabon, there has been widespread unrest following the recent presidential election, but so far, there has apparently been no impact on production, which is currently assumed to be running around 235 kb/d.  In the Republic of Congo, Murphy started output at its Azurite field, part of the offshore Mer Profonde Sud (MPS) block.  Reportedly, initial volumes were around 10 kb/d, which Murphy hopes to raise to around 40 kb/d by the end of the year.  Total oil production in non-OPEC Africa is forecast to dip from 2.50 mb/d in 2009 to 2.47 mb/d in 2010.

Brazil's Lula Outlines Suggested Pre-Salt Development Regime

On 31 August, Brazilian President Luiz Inacio 'Lula' da Silva outlined his government's long-awaited proposals for a new regulatory regime for the country's huge untapped 'pre-salt' crude oil reserves in deep water offshore.  These proposals are still to pass Congress, but may ultimately determine how a supposed 50 billion barrels or more of recoverable crude will be produced in the world's newest and most significant oil frontier since the development of the Caspian.  While President Lula framed the proposals in terms of a 'new independence day' for Brazil and a unique opportunity to transform the fate of Brazil's large population by boosting the state's take of profits, observers have focused on whether the suggested regime would hamper a rapid and profitable development of the reserves, as well as restrict access to one of the few attractive opportunities in which IOCs can invest.

The proposed legislation comprises four bills:

  • The current system of concessions, in which investors win rights to develop a field and then pay taxes and royalties to the government, would be replaced by production-sharing agreements (PSAs), in which the government retains a share of the oil produced.  Brazil's state-controlled Petrobras would in all cases be the field operator and would always have a minimum 30% share, but would be allowed to bid for a higher share, while winning bids would be awarded to the company that offers the largest share of oil to the government.  Importantly, the PSA regime would only apply to new pre-salt discoveries or other areas the government declares of 'strategic' significance, and would not be applied retrospectively to existing contracts (i.e. non-pre-salt fields or the Tupi field in the pre-salt).
  • In order to ensure that Petrobras has sufficient financial clout to deal with the additional demands of being the sole operator of all pre-salt projects, the Brazilian state would cede an area containing the equivalent of five billion barrels of oil to the company.
  • A new state-owned company ('Petro-Sal') would oversee the PSAs and would wield a veto over private company decisions related to the development of reserves.  Meanwhile, the National Energy Policy Council (CNPE), an existing advisory board to the President, would be given authority to oversee decisions on which acreage would be declared 'strategic' and therefore liable to PSA terms.  The CNPE would also have the right to allocate some fields entirely to Petrobras, or launch a public bidding process.
  • A government social fund would be created, in which profits from the pre-salt reserves would be deposited and transparently allocated for social development.  Modelled on Norway's successful example, the fund would attempt to ensure that Brazil's population benefits from the pre-salt's development.


So far, critics of the proposed legislation have mainly focused on the monopoly operatorship role of Petrobras.  The concern is that the current competitive environment would suffer, even though Petrobras is widely admired for its rapid development of challenging offshore crude supplies in recent years.

Others worry that the government's increased role could lead to political interference in operational decisions.  The current energy regulator, the National Petroleum Agency (ANP), could be somewhat sidelined by the increased role of the Ministry of Mines and Energy, Petro-Sal and the CNPE.  Ultimately, the state's larger role may serve mainly to ensure that the development of the pre-salt reserves is staggered (and thus more slowly), as compared with a system in which market and company considerations dominate the speed of the ramp-up (and ultimate decline) of production.

Others detect political imperatives ahead of next year's presidential elections.  The proposals have been put on a fast track with a so-called 'urgency provision', requiring the bill to be debated, amended and passed by Congress's two houses within 90 days, which many feel could lead to rushed and potentially flawed legislation after the government itself took two years to develop its proposals.  The earliest licensing rounds may therefore be some way off if prolonged deliberations result.

With so much crude oil at stake and access to untapped reserves elsewhere often restricted, Brazil's pre-salt reserves are likely to continue to attract IOCs, even if the fiscal regime is tightened in the state's favour.  Foreign operators are already active in Brazil and have contributed to recent, strong output growth.  Just this summer, Chevron and Shell started output at their Frade and Parque das Conchas fields, which will ultimately contribute 80 kb/d and 100 kb/d respectively.  BG and Galp share (with Petrobras) Tupi, the first pre-salt field to be developed (test production started earlier this year, but was recently interrupted due to a technical hitch).  Despite potential regulatory hiccups however, the pre-salt reserves are likely to prove one of the key long-term props for otherwise potentially sluggish non-OPEC supply growth in years to come.

China - July actual:  Oil production in July in China was revised down by 100 kb/d, on lower-than-estimated production at Daqing and other fields.  On the other hand, production at the large offshore Jidong Nanpu project started in July, several months earlier than we had expected, boosting the baseline for 2009 and especially 2010.  Initially, the field should reach 10 kb/d by the end of 2009 and then ramp-up to 50 kb/d in 2010.  Peak capacity of 200 kb/d is expected to be hit in 2012, but later development stages may add additional volumes.  Total Chinese production of 3.85 mb/d in 2009 is now forecast to rise by 175 kb/d to 4.02 mb/d in 2010, largely on higher offshore and growing non-conventional (coal-to-liquids) production - the latter to grow to around 55 kb/d next year.



Other Asia:  Total Other Asia production was left largely unchanged for 2009, but was revised down by 20 kb/d in 2010 on the basis of lower expected crude output in Indonesia.  There, despite ExxonMobil's announcement that it had restarted production at Cepu on Java, in late August, we have cautiously assumed a slower ramp-up.  The field, which started output at very low volumes at the end of 2008, has been effectively offline since March of this year, with complications over export routes.  Apparently under pressure from market regulator BP Migas, production has now resumed, though volumes are expected to remain low until the end of the year and maybe well into next.  In India, Cairn's Mangala field in Rajasthan started producing in August.  Mangala itself should pump 125 kb/d at capacity, to which satellite fields Bhagyam and Aishwariya are expected to add another 30 kb/d and 20 kb/d in 2010 and 2011 respectively.  Total oil production in Other Asia is forecast to rise by 85 kb/d from 2009's 3.66 mb/d, to 3.74 mb/d in 2010.

OECD stocks

Summary

  • OECD industry stocks rose by 12.8 mb in July, to 2,778 mb.  The rise was less than the five-year average monthly build of 37.6 mb.  Distillate increases in all three regions, particularly North America, outweighed a decrease in both gasoline and fuel oil stocks.  Crude stocks edged up by 0.8 mb, with a build in the Pacific outweighing draws in North America and Europe.
  • OECD stocks in days of forward demand stood at 61.8 days as of end-July, unchanged from an upwardly revised end-June reading.  Crude days cover stood above the five-year range for all three regions.  In products days cover, European residual fuel oil, European middle distillates and Pacific gasoline fell the most, but all remained above the five-year range. 
  • Preliminary data indicate total OECD industry oil inventories fell counter-seasonally by 7.7 mb in August, driven by draws in both crude and products.  Crude stocks drew by 3.7 mb, led by the US.  Product stocks decreased 3.9 mb, as falls in US gasoline and 'other products' outweighed middle distillate gains in all three regions.
  • Short-term crude floating storage levels declined to 50-55 mb as of late August, down from around 65 mb at end-July.  Short-term products floating storage - mostly middle distillates - showed signs of stabilising.  At 60-65 mb as of end-August, readings were down slightly from end-July.


OECD Inventory Position at End-July and Revisions to Preliminary Data

Despite increasing 12.8 mb in July, the surplus in OECD total commercial industry stocks versus the five-year average continued to be whittled away.  End-July total oil stocks stood a lofty 128 mb above the five-year average, but this was down from a 153 mb surplus at end-June.  OECD middle distillate stocks have narrowed their surplus versus the five-year average for two consecutive months with the end-July differential at 74 mb, down from 89 mb at end-May.  Moreover, combined crude and products in short-term floating storage fell in August for the first time since the run-up in offshore inventories began late last year, while preliminary August data point to a counter-seasonal draw in OECD stocks of 7.7 mb.





However, sizeable inventory imbalances remain, with the crude category seeing its surplus to the five-year average growing in July.  An upward revision to both Canadian (+8.8 mb) and US (+2.6 mb) crude inventories in June plus July's stock change put the North American crude surplus against the five-year average at 56 mb at end-July, up from 49 mb at end-June.  Japan also experienced a sizeable upward revision to its June crude stocks of 12.6 mb.  As such, OECD crude stocks for June were revised up by 23.1 mb.  Some downward revisions to product stocks helped damp the overall impact of the crude revisions.  Europe and the Pacific also remained relatively balanced on the crude side.  Nevertheless, the overall OECD 2Q09 stock build, while still small by historical standards, was revised to 240 kb/d, up from 100 kb/d in last month's report.



On a forward demand basis, total OECD stocks have stubbornly remained around 61.8 days as increasing inventories offset upward revisions to our three-month forward demand forecast.  Regional differences have emerged, though.  While days cover in North America has remained steady above the five-year range, buoyed by crude and distillate, readings in Europe and the Pacific in recent months have edged closer to the top of the five-year range, aided by relatively more balanced crude, distillate and gasoline. 

Analysis of Recent OECD Industry Stock Changes

OECD North America

North American industry stocks rose by 3.6 mb in July, mostly due to an 8.0 mb rise in US middle distillate stocks.  US crude stocks posted a counter-seasonal rise of 1.7 mb as refinery throughput fell and US government holdings of crude rose by 0.7 mb.  North American crude stocks continued to show the largest surplus relative to the five-year average compared with other regions.  Despite weak refinery runs, US total product stocks rose by 7.5 mb overall as the middle distillate rise more than offset falling fuel oil inventories.  Gasoline stocks remained relatively unchanged.  By contrast, Mexican inventories fell by 4.3 mb in July with crude and products drawing by 3.3 mb and 1.0 mb, respectively.



August preliminary data through the week ending 28 August point to a 19.2 mb drop in US stocks, which would mark the first monthly fall in total US commercial inventories since September 2008.  US crude stocks drew 6.1 mb as refinery throughputs rose through the month and imports fell on average, but inventory levels remained 12.8 mb above the five-year range at the end of the month.  Strategic Petroleum Reserve (SPR) filling dropped to zero.  SPR holdings are expected to increase only by 1 mb during September.  Crude stocks at Cushing, Oklahoma, which had begun to approach effective capacity limits in July, fell by 2.1 mb in August, partially helping to reverse some of the contango in WTI and the benchmark's discount to Brent.



US product stocks fell by 13.1 mb in August as a decrease in gasoline stocks of 7.8 mb and a 7.0 mb decline in the combined 'unfinished oils' and 'other oils' categories outweighed a 2.1 mb rise in distillate stocks.  Gasoline stocks dipped to the top of the five-year range, even though demand readings remained weak as refiners may have sought to draw down inventories of summer grade product.  By contrast, distillate inventories continued to hit new five-year highs.  Still, more of the overhang in distillate lies on the diesel side.  Heating oil stocks on the US East Coast are trending within their five-year range as the start of the heating season approaches in October.

OECD Europe

European inventories fell by 3.2 mb in July, mostly due to a 5.0 mb decrease in crude inventories.  European crude stocks continued to show balance relative to the five-year average.  Product inventories rose slightly by 0.2 mb, as a 2.8 mb rise in distillate outweighed a 2.2 mb fall in gasoline stocks.  A slight decrease in fuel oil inventories continued to leave that category trending along the top of the five-year range.  While the distillate surplus to the five-year average remains robust, in July this narrowed by 4.0 mb and European distillate demand cover fell by 0.7 days.



Still, absolute middle distillate levels continued to grow.  German consumer heating oil stocks rose by two percentage points in July, to 66% of fill capacity.  Although the change was less than the five-year average build for the month, heating oil stocks stood almost 14 percentage points above the five-year average.  Gasoil stocks held in NW Europe independent storage also rose in August to new five-year highs.  In addition, preliminary data from Euroilstock indicate EU-16 distillate inventories increased 2.6 mb in August.  While middle distillate floating storage globally showed signs of stabilising in August, it remained high, with a substantial component still stored off NW Europe and in the Mediterranean.



August preliminary data for other product categories show fuel oil and gasoline held in NW Europe independent storage increasing on the month, but by month-end both categories still stood at or below the five-year average.  Naphtha and jet/kerosene stocks both posted monthly declines.  Preliminary data from Euroilstock indicate EU-16 product stocks rose by 4.8 mb in August.  Middle distillates and residual fuel oil posted the largest gains, rising 2.6 mb and 2.3 mb, respectively.  Naphtha remained unchanged while gasoline stocks edged downward by 0.1 mb.  Crude stocks rose by 0.7 mb even as refinery utilisation, which remained historically low, rose slightly.

OECD Pacific

Pacific industry stocks built by 12.4 mb in July, driven by a 7.3 mb crude increase.  Like Europe, the Pacific continued to show crude stock levels near the five-year average, though inventories looked healthier on a days cover basis.  Product inventories rose by 4.9 mb as a 4.4 mb rise in distillates outweighed a 1.6 mb gasoline fall.  Residual fuel oil stocks rose by 0.4 mb, but remained well below the five-year range.  On a days cover basis, gasoline, distillates and fuel oil trended at the top or above the five-year range, while the 'other products' category remained near the bottom of the five-year range.



Weekly data from the Petroleum Association of Japan (PAJ) point to a commercial stock build of 6.0 mb in August, with crude rising by 1.7 mb and products increasing by 4.4 mb.  Crude inventories continued to trend at the bottom of the five-year range, but weak forward refinery utilisation suggests a healthier picture on a days cover basis.  Kerosene showed the largest build among products, increasing by 2.2 mb while gasoline posted the only product draw, falling by 1.1 mb.  Still, kerosene inventories trended below the five-year average in August while other product categories remained more in line.  In addition, unfinished product stocks - which include unfinished gasoline, middle distillates and fuel oil - continued to trend well below the five-year range, reflective of weak refinery utilisation.



Recent Developments in Singapore and China Stocks

Singapore product stocks increased in August by 6.3 mb on the back of rising fuel oil stocks.  After falling below the five-year average in July, Singapore fuel oil stocks rebounded sharply by 7.3 mb in August, putting them back above the five-year range.  Light and middle distillate stocks, by contrast, posted draws of 0.9 mb and 0.1 mb.  Yet, both categories remained at or above the five-year range.



China crude oil stocks reported by China Oil Gas and Petrochemicals (OGP) increased by 7.3 mb in July to 283 mb, reversing June's 7.7 mb draw.  Net imports of crude rose to record high levels on the month, outweighing an increase in refinery runs.  OGP also noted that the crude inventories data included 'both the commercial and state strategic reserves'.  Aided by high refinery output, product stocks posted a strong gain on the month as gasoline increased 13.8 mb and gasoil rose 5.5 mb.  However, the headline products build may have masked opposite movements at the wholesale level.  A looming end-July decrease in gasoline and gasoil guidance prices may have incentivised some destocking from storage not captured by the OGP data.





Prices

Summary

  • A relative calm descended on oil markets in early September as the seasonal shift in demand appears to have prompted traders to focus more on fundamental factors driving oil prices.  Futures prices for WTI and Brent rose on average by $7/bbl in August to around $71/bbl and $73/bbl, respectively. By early September, benchmark crude prices were trading $3-4/bbl below August levels.  Arguably, prices appear to have tested limits and settled in a $68-74/bbl price range for now.
  • The latest range-bound price may prove transient depending on how the market copes with the menacing high levels of distillate stocks hanging over all major consuming regions.  However, a growing number of analysts are taking a longer-term view and see a rebound in demand whittling away at stocks this winter and into 2010.  OPEC officials at writing appeared set to rollover existing output targets despite persistently high global oil stocks.
  • Refining margins in August showed a mixed picture as both crude oil and product prices increased across the board.  In the US Gulf Coast, margins suffered from weaker-than-expected summer gasoline demand.  In Europe, hydroskimming margins were negative, continuing the trend seen since March 2009.  Similarly, in Singapore both hydrocracking and hydroskimming margins remained negative over the same period.
  • The beleaguered tanker industry remained under pressure through August, and only Suezmax tankers generated returns above break-even, with increasing bunker prices contributing to the gloom.


Overview

A relative calm descended on oil markets in early September as the seasonal shift in focus from gasoline to heating/gasoil demand appears to have prompted traders to take stock of fundamental factors driving oil prices.  Structurally weak oil fundamentals have largely remained just a footnote in the recent oil market narrative, with crude prices closely following more headline-driven bullish equity and financial markets in recent months.

However, broader market fears that the recent strength in financial and equity markets lacks sustainability, coupled with a growing consensus that any recovery in the global economy may be slower and protracted in nature than previously anticipated, has had a trickle down effect on oil prices.  Market reaction to the daily stream of both negative and positive economic data appears to be more tempered than the exuberance of the past six months. The much-hoped for decision by leaders of the G-20 to maintain economic stimulus measures was greeted with an unusual degree of equanimity.

Futures prices for WTI and North Sea Brent rose on average by $7/bbl in August, to around $71/bbl and $73/bbl, respectively.  After hitting a low in February, prices jumped by more than 120% to reach a 2009 intra-day high over $75/bbl in mid-August.

Arguably, prices appear to have tested a downside of about $66/bbl and an upside of $75/bbl, settling in a $68-74/bbl price range for now.  Daily price swings have also been less volatile, averaging around $2.50/bbl for crude futures over the past month, or around half the $5/bbl seen a year ago.  That said, the latest range-bound price may prove transient depending on the how the market copes with the elephant in the room: high levels of distillate stocks hanging over all major consuming regions.



Middle distillates stocks have reached 20-year highs in the US.  In Europe, on-land tanks are brimming with stocks well above the five-year average, at both the secondary and consumer level.  A further 60-65 mb, of mostly middle distillates, was being held in floating storage at the end of August.

While exceptionally high levels of distillates stocks are pressuring markets, a growing number of analysts are taking a longer-term view and see a rebound in demand whittling away at stocks this winter and into 2010. The thinking goes that once increased demand growth gathers steam, secondary and tertiary inventories, drawn down over the past year partially due to credit woes, will be gradually replenished, temporarily augmenting growth rates.



Indeed, this month's report shows a significant 0.5 mb/d upward revision in oil demand estimates for this year and 2010.  Stronger demand in the US and non-OECD Asia, especially China, is expected to lead the recovery, albeit growth is expected to be strongest for gasoline and other fuels such as LPG.  However, there is much uncertainty regarding the true strength of Chinese demand.

Market reports suggest OPEC ministers will maintain current output target levels despite persistently high global oil stocks.  Saudi Arabia, in particular, reportedly sees a rebound in demand negating the need for any further cuts in output targets.  The formal meeting is scheduled to take place in Vienna as this report goes to press on 9 September.  OPEC-11 members have collectively cut in August 2.79 mb/d compared with the 4.2 mb/d in cuts agreed since last September.  Prices hovering close to OPEC's stated price target of around $70-75/bbl also likely behind the calm going into the meeting.  OPEC's price basket increased by around $7/bbl, to $71/bbl, in August.  That is about $10/bbl above the level when ministers last met to discuss production policy.



The forward price spread for benchmark crudes narrowed by around $3.50/bbl, reflecting a tighter prompt market.  The 12-month strip for WTI declined from $76.38/bbl to $70.76/bbl over the course of August and Brent from $78.62/bbl to $70.31/bbl.



The relatively strong price premium for Brent crude over WTI ballooned to $1.92/bbl in August, however, the spread collapsed at end-month, largely due to expectations of increased North Sea supplies in September following completion of seasonal field maintenance work.  WTI regained its premium by late August, but just barely, at around 50 cents/bbl, in part on lower stocks at Cushing.

Spot Crude Oil Prices

Spot crude oil markets moved higher throughout most of August before easing again in early September.  Both light and heavy crudes posted month-on-month increases of around $6-8/bbl.  Higher throughput rates in the US on the back of improved crack spreads early in the month helped support prices, especially for lighter domestic grades like Light Louisiana Sweet.  By early September, prices eased as the end of the disappointing summer gasoline season gave way to worry about swelling stocks of distillate going into the peak heating oil demand period.

In the US, a flatter contango, with spreads between prompt and forward prices narrowing, triggered a wave of selling from crude stored at the pivotal Cushing, Oklahoma facilities.  Cushing stocks declined for three weeks in a row, and were down by 2.1 mb in August.



In Asia, crude oil markets found some support from Chinese buying in step with higher refinery throughput rates, with prices for lighter crudes such as Cinta and Iranian Light up by around $8/bbl while gasoil-rich crudes from Abu Dhabi were up by a lesser $5-6/bbl.  In Europe spot crude prices tracked futures prices higher but refiner demand remained muted.  OPEC's cutback of heavy and medium sour crudes continued to support higher premiums for Middle East crudes.

Spot Product Prices

Spot product prices followed crude oil markets higher in August.  In the near term, middle distillates remain the weak link across all regions, reflecting anaemic demand and plentiful stocks both onshore and offshore, especially in Europe and Asia.  While analysts are betting on a recovery in demand in the longer term, distillate prices are likely to remain under pressure well into 2010.  Moreover, substitution opportunities are limited in the short term due to record-weak natural gas prices.





Fuel oil prices continue to be bolstered by lower supplies of heavier, sour crudes from OPEC and reduced refinery throughput rates.  Brisk demand for bunker fuel, coupled with reduced refinery output, supported crack spreads in all regions.



Refining Margins

Refining margins in August were mixed as both crude oil and product prices increased across the board on a monthly basis. In the USGC, margins suffered from weaker-than-expected summer demand.  In Europe, hydroskimming margins remained negative, continuing the trend seen since March 2009.  Similarly, in Singapore both hydrocracking and hydroskimming margins remain negative over the same period.

In Europe, relatively stronger spot prices for Brent due to supply cutbacks as a result of planned maintenance, far outpaced the increase in product prices for both cracking and hydroskimming configurations. Brent cracking margins were $0.49/bl, the lowest level since May 2002.  Stronger gasoline and gasoil/diesel crack-spreads led to improved margins for Urals at cracking refineries in August, but started deteriorating by early September.  Negative margins for Urals widened for hydroskimming in Northwest Europe and in the Mediterranean.

Weak margins will keep refiners reducing crude runs and shutting down production capacity until market conditions improve, particularly for simple configurations.  Petroplus is reducing crude runs to around 80% of capacity on average at its European refineries for the rest of the year, in addition to already closing its UK Teesside refinery ahead of a potential sale or conversion into an import-fed storage depot.

In Singapore, stronger gasoline and gasoil/diesel cracks allowed Dubai hydrocracking margins to improve.  Product prices have found support from the temporary shutdown of Vietnam's first refinery due to a technical repair at the end of August.  However, Dubai hydroskimming margins fell due to the lower gasoline and gasoil/diesel yields for this type of refinery and a weakening of high sulphur fuel oil cracks.  The price increase for Tapis offset product prices, pushing margins to below -$5.00/bbl.  Tapis hydrocracking margins have remained negative since February 2009, while hydroskimming margins have not reached positive territory since January 2005 on a full cost basis.



In the USGC, margins lacked support from the gasoline markets as gasoline premiums to crude narrowed in spite of a 7.8 mb stockdraw, which is likely to be more related to the move to winter-grade gasoline than to strong demand.  Only Light Louisiana Sweet margins improved, supported by stronger diesel crack spreads and this crude's higher diesel yield.



Upgrading margins in the US and Asia have been showing a decreasing trend this year.  In August, US upgrading margins were positive for the first part of the month and negative for the second as gasoline and distillates differentials to crude narrowed, affecting more coking configurations while fuel oil prices strengthened, favouring cracking configurations.  The poor economics of coking configurations had forced the largest US independent refiner, Valero, to shut down the coker unit at its Corpus Christi, Texas, refinery and to reduce throughputs of two other coker units at end of July. In addition, in early September, Valero announced further capacity rationalisation, this time the coker unit at the Delaware City refinery, again on economic basis.

European upgrading margins present a more balanced view.  Upgrading margins reflected mainly the behaviour of gasoline prices, with falls in gasoline prices during the second and fourth weeks of August particularly affecting cracking configurations.

In the short term, the refinery margins outlook is gloomy as product stocks, particularly middle distillates, continue piling up in the Atlantic basin.  The ample availability of products continues to undermine prompt prices, creating a contango market structure and incentivising stock building by traders. Limits to storage may pressure further run cuts unless winter demand and/or economic growth pick up sharply.

End-User Product Prices in August

End-user product prices followed spot markets higher in August, rising on average by 6.0% month-on-month, in US dollars, ex-tax.  Transportation fuels and heating oil/gas oil prices increased by 5.3% last month.  Prices for low-sulphur fuel oil rose by a stronger 8.1%.  After a dip in July, retail gasoline prices for consumers in the US averaged $2.62/gallon ($0.69/litre).  For the seventh month running, prices for consumers in Japan increased, to ¥126.0/litre ($1.32/litre) in August.  In the UK prices were up to £1.04/litre ($1.72/litre) while elsewhere in Europe prices ranged from a low of €1.06/litre ($1.51/litre) in Spain to a high of €1.34/litre ($1.90/litre) in Germany.  Year-on-year, retail prices for the surveyed products declined 35.6% from August 2008.

Freight

Dreadful conditions in the tanker industry persisted throughout August, and only Suezmax tankers generated returns above break-even levels, with increasing bunker prices contributing to the gloom.

Dirty rates on the benchmark route between West Africa and the US Atlantic Coast increased from around $9/mt to almost $15/mt on increased exports from West Africa to new Asian refinery centres.  However, towards the end of the month the rates fell again and were back at $10/mt in early September.

Middle East Gulf to Japan VLCC rates fell back to end-July levels of $7/mt at the end of August, after a slight mid-month uptick to $8/mt, and fell further in early September, with persistently low demand and a surplus of available vessels.  Increasing bunker prices eroded margins, and the withdrawal of some vessels rebalanced the market somewhat.  North Sea Aframax was the worst performing market with freight rates between $4/mt and $5/mt throughout the month.  In the short term floating storage of crude oil has come down considerably since its April peak.  However it continues to tie up a significant portion of the tanker fleet, with an estimated 25 VLCCs engaged in the practice as of the end of August.

Clean rates in the Far East showed signs of life, with the benchmark South East Asia to Japan route climbing by $1/mt, to over $10/mt over the course of the month, and other routes in the region posting even higher gains.  An uptick in regional trade, as Chinese refineries offered products to neighbouring states hit by refinery outages, partly explains the situation.  Middle distillates from India's Jamnagar refinery, attracted by low freight rates and a European gasoil price contango, piled up as short-term floating storage in the Rotterdam area.  Other long-haul routes in the Pacific region posted gains, as US West Coast gasoline imports increased.  Middle East Gulf to Japan Aframax rates fell in mid-August to near $19/mt, before rebounding to above $21/mt.  The Atlantic products market was slow, and rates for 25 kt clean tankers between NW Europe and the US Atlantic Coast fell from an early month peak of $16/mt down to $12/mt at end-August.  Caribbean rates for 30k clean tankers were stable at just below $9/mt.



The current overcapacity in VLCCs and diminishing margins due to higher bunker prices is encouraging long-awaited scrapping or conversion of single-hull VLCCs, which still make up around 18% of the global VLCC fleet.  Reportedly, two VLCCs were sold for demolition in August, and others await conversion to dry-bulk or floating oil production purposes.  Single-hull tankers are on a phase-out scheme set by the International Maritime Organisation (IMO), and this factor has provided some support to oil tanker rates.

Refining

Summary

  • Projected 3Q09 global crude runs are revised up this month to 72.1 mb/d, an increase of 0.2 mb/d from last month's report, due to higher demand estimates and a lower US hurricane adjustment.  Despite this, global refinery crude runs remain under pressure from poor refining margins.
  • Preliminary July data for OECD countries was 0.1 mb/d ahead of expectations, while June data for several non-OECD countries were, on aggregate, 0.6 mb/d stronger than expected.  Much of the upward revisions relate to actual maintenance falling short of previous announcements.  Consequently, our forecasts included overly pessimistic prognoses for Lithuania, Indonesia, and Thailand among others.  Conversely, Chinese throughputs were in line with estimates for the first time since February.  However, announced commissioning of several new refineries sooner than we had expected leads to further increases in our crude throughput forecasts for the rest of the year.


  • Global 4Q09 crude runs are provisionally assessed at 73.4 mb/d, an annual increase of 0.6 mb/d.  This would represent the first annual growth in crude runs since 3Q08, but is predicated on a return to normal seasonal patterns.  Should European refiners still face significant excess middle distillate stocks and weak gasoil/diesel margins in December, or were Japanese kerosene demand weaker than forecast, it would suggest that there is significant downside risk to these estimates.  Annual growth in Chinese runs averages 1.2 mb/d for 4Q09, while the OECD looks set to register a decline of 1.0 mb/d, despite the assumed seasonal uptick in activity.
  • In June, OECD refinery yields increased for gasoline, jet fuel/kerosene and 'other products' at the expense of naphtha, gasoil/diesel and fuel oil.  Only gasoline yields stayed above the five-year range.  Gasoil/diesel yields fell and approached their five-year average level, reflecting weak product cracks and brimming stocks in Europe.  Yields for the rest of the products remained below their historical ranges.  Gasoline yields rose as the seasonal peak in US demand approached and low stocks levels.

Global Refinery Overview

Refiners continue to suffer from the fallout of the global economic downturn, despite growing evidence that some countries may have reached a low point and that a resumption of economic growth, while not yet a reality, may become apparent in the coming months.  The legacy of the consequential drop in oil demand for refiners is likely to take several years to wear off.  Owners of excess refining capacity in regions where it is no longer needed must wrestle with the industrial necessity of closing uncompetitive plants or integrating them into larger-scale operations, in order to capture economies of scale.

Only Chinese refiners appear to have dodged the impact of oversupplied global product markets and the associated weak margin environment, as the government's product pricing regime continues to incentivise refiners to maximise throughputs and where possible build stocks inland.  Trade data for China for the first half of 2009 indicate that net exports of gasoline and middle distillates have returned to 2007 levels, in contrast to the stock building-induced surge in imports seen during the summer of 2008, but overall net imports of products remain in line with the five-year average.



2Q09 global estimates are revised up by 0.1 mb/d to 71.7 mb/d, on the back of stronger-than-expected June crude runs in Lithuania, Thailand, Chinese Taipei, and Indonesia.  This follows last month's upward adjustments to Brazil, Indonesia, and Thailand for May crude runs.  It may prove that our working assumption for economic run cuts in some non-OECD countries was overly severe, especially if demand estimates continue to be revised up in future months.

Global 3Q09 crude run projections are revised up on the back of better-than-expected July OECD crude runs, and June non-OECD data.  In addition to the stronger demand estimates for 3Q09, a reduction to the hurricane-related adjustment for September also raises our 3Q09 projection.  Nevertheless, the continued weakness in refining margins, notably in Europe, where Brent cracking margins reached their lowest monthly average level in August since May 2002, suggests that continued economic run cuts before the end of the year are likely.  With the end of the US gasoline demand season, German consumer heating oil stocks near record levels for the time of year and Chinese crude runs up year-on-year by around 0.9 mb/d, incentives to boost activity elsewhere in the world may be few and far between.

Projections are extended through to December, with a provisional estimate that crude runs will average 74.0 mb/d during the month.  This represents a month-on-month increase of 0.6 mb/d and would represent the highest level since of crude throughput since August 2008.  Much of this increase relies on European and Japanese refiners re-instating the seasonal increase in crude runs, which did not occur in 4Q08, plus the now higher demand estimates becoming a reality and, not least, a continuation of Chinese refinery crude runs at 7.9 mb/d.  All told, there remain significant downside risks to this forecast, most notably from the persistence of the bulging middle distillate inventories floating offshore Europe and elsewhere.

OECD Refinery Throughput

Preliminary July crude runs of 36.4 mb/d were marginally ahead of projections, largely due to better-than-expected European crude runs.  Despite this, European crude throughput remains 1.0 mb/d below July 2008 levels, reflecting the structural decline in demand that the region has experienced, and the impact of materially weaker diesel cracks year-on-year.



Prospects for a sustained recovery in OECD crude throughputs look limited in the short term as refiners continue to cut runs.  A notable addition to the list of refiners pursuing further ways curtail activity is Total, which has announced plans to shut its 140 kb/d Dunkirk refinery, ostensibly on economic grounds, with restart reportedly dependent on favourable demand conditions.  Elsewhere, Japanese refiners continue to limit crude throughputs, with Nippon Oil, the largest Japanese refiner, limiting utilisation of its 1.3 mb/d of distillation capacity to 58% during September.  More generally, Japanese crude runs appear to have passed the summer peak with utilisation reaching just 77%, versus a five-year average of around 90%.

Nevertheless, upward revisions to demand forecasts suggest that US, and possibly European, refineries could see higher crude runs during 4Q09. We have thus revised up our October and November estimate accordingly.  Similarly, we have removed one-third of our 1.2 mb/d North American hurricane disruption adjustment for September, as hurricanes have yet to materially trouble the operations of North American refiners.  All told, OECD 3Q09 crude throughputs are revised up by 0.2 mb/d, almost wholly due to higher September estimates.  Similarly, the October and November projections are an average of 0.5 mb/d higher than last month's report.



July OECD North America crude throughput was in line with expectations, although the continuation of weak US July throughputs through the first half of August suggests that next month's preliminary data will be lower than expected and we have cut our US estimate accordingly, by 0.2 mb/d.  Late August saw a recovery in US crude runs to near 15.0 mb/d, the highest weekly level since early July, suggesting crude throughputs in September will post their first sustained period of annual growth since early 2007, albeit aided by last year's significant hurricane-related disruptions.  3Q09 projections are raised by 0.3 mb/d, to 17.5 mb/d, largely thanks to higher demand estimates and a now lower hurricane disruption adjustment, given the lack of impact from tropical storms to date.



Preliminary data for July OECD Europe crude runs were marginally ahead of expectations at 12.6 mb/d and 0.3 mb/d above June's level, but still some 1.0 mb/d lower than July 2008.  Turkish crude runs continue to track well below historical levels, down by more than 35% year-to-date against last year, and account for a significant portion of the decline in European activity.  The disruption to the SPSE pipeline in southern France, following a leak, is not thought to have disrupted refinery operations significantly during August, with the exception of Petroplus's Cressier refinery in Switzerland, which was closed for two weeks.

Elsewhere, Total has announced the closure for economic reasons of its 140 kb/d Dunkirk refinery, for an unspecified period.  The restart of operations is reported to be dependent on a recovery in demand sufficient for the plant to operate profitably.  This closure comes in addition to the partial shutdowns at its much larger 340 kb/d Gonfreville refinery, also on France's Northwest coast, and the 200 kb/d Lindsey Oil refinery in the UK, both reportedly for economic reasons.  However, rising exports of ULSD and European specification gasoil from the FSU is likely to defer a quick reduction of excess middle distillate stocks, absent a pick-up in demand.  Planned maintenance is likely to depress European runs during October, but a subdued seasonal recovery is now expected over the balance of 4Q09, although the average of 12.5 mb/d remains 0.8 mb/d below the comparable period for 2008.

OECD Pacific crude throughput projections are little changed from last month's report.  Following the August peak in Japanese crude runs, a drop in activity levels during September and October is now expected, as refineries undertake maintenance.  The low levels of Japanese refinery throughput appear to be contributing to the subdued build-up in kerosene stocks, which are back below levels of a year ago and five-year-average levels and, on their current trajectory, are expected to drop below the five-year range during September.  In due course, this may raise the potential for higher crude runs at some point, but robust demand would also be a prerequisite.  4Q09 is expected to see a rise in activity levels, in line with seasonal norms, with the region averaging 6.3 mb/d, but nevertheless a drop of 0.4 mb/d from 4Q08.  The bleak outlook for refining, and depressed cash flow from operations, continues to dampen refiners' appetite for new investments, with SK Energy the latest refiner to postpone upgrading projects.  It now expects to complete the upgrade to its 275 kb/d Incheon plant by 2016, rather than 2012 as we had previously assumed in our MTOMR - 2009 Edition, published in June.

Non-OECD Refinery Throughput

Non-OECD crude throughput estimates for 2Q09 have been revised up by 0.2 mb/d to 35.8 mb/d, following stronger than expected June data for several countries.  Similarly, following stronger than expected July data for Russia, we have reassessed their likely crude runs for the balance of 2009, leading to an upward revision of 0.1 mb/d, despite higher than previously expected maintenance in October.  China's July crude throughput was in line with expectations, but the earlier than expected start-up of two new refineries, in conjunction with the supportive pricing environment currently in place, leads us to revise up 4Q09 projections by 0.2 mb/d, to 7.9 mb/d.  Furthermore, the consistent outperformance of some Asian countries raises the possibility that our existing assumptions on run cuts for the region may have been too onerous, leaving potential for further upward revisions in the coming months to 3Q09 non-OECD throughput estimates.

Russian crude runs in July were again 0.1 mb/d ahead of expectations at 4.8 mb/d, in line with levels of a year ago and close to record throughputs.  Increased exports of ULSD and European specification gasoil have helped refineries offset weak domestic demand and capture higher margins for a better quality product specification.  Consequently, we have revised up 3Q09 throughputs by 0.1 mb/d, and 4Q09 by 0.2 mb/d, with the incorporation of heavier maintenance for September and October acting as a partial offset.



Chinese crude throughput in July was 7.8 mb/d, in line with expectations.  August crude runs are seen falling slightly to 7.7 mb/d on the back of planned maintenance, although still representing an annual increase of 0.9 mb/d.  However, the start of test runs at PetroChina's 200 kb/d Dushanzi refinery and state-owned China North Industries Group's 100 kb/d Huajin refinery raises both September and 4Q09 estimates.  Financial data for 1H09 suggest that the government's current policy of raising product prices continues to benefit Chinese state refiners.  PetroChina's first-half refining operating profit of around $6.50/bbl, compares to a loss of more than $20/bbl during 1H2008.  Similarly, Sinopec 1H09 operating profit of over $4.50/bbl, compares to a loss of nearly $11/bbl in 1H08.

OECD Refinery Yields

In June, OECD refinery yields increased for gasoline, jet fuel/kerosene and 'other products' at the expense of naphtha, gasoil/diesel and fuel oil.  Only gasoline yields stayed above their five-year range.  Gasoil/diesel yields fell and approached their five-year average, reflecting weak product cracks and brimming stocks in Europe. Yields for the rest of the products remained below their historical ranges.



Gasoline yields reached 35.0%, surpassing last month's record level of 34.8%, as refiners in the US prepared for the driving season and stocks levels were low.  Gasoline crack spreads remained the best option for refiners, even though they decreased month-on-month across the regions. The decline in the Pacific region, albeit from a five-year high the previous month, was more than offset by higher yields in North America and Europe.  European yields increased above the historical average, while in North America and the Pacific they were above the five-year range.



Jet fuel/kerosene yields increased counter-seasonally, supported by higher crack spreads in June.  A yield increase in Europe outweighed marginal decreases in North America and the Pacific.  Naphtha yields continued their downward trend for the third consecutive month as crack spreads continued to deteriorate.  In the Pacific, yields fell below the five-year range, and have lost two percentage points since February.  In Europe, naphtha yields increased marginally.  However, they continued below their five-year range, losing 1.3 percentage points since March.



Gasoil/diesel yields fell heavily, from near the top of the five-year range to just above the five-year average, with crack spreads lower than those for jet fuel/kerosene across the board.  Lower yields in Europe and North America offset a seasonal increase in the Pacific.  Fuel oil yields decreased marginally in accordance with weaker crack spreads across the board and remained well below seasonal averages on lower heavy crude availability.  Decreases in Europe and North America offset an increase in the Pacific, where yields remained 4.2 percentage points below their five-year average as fuel oil demand is being substituted by increased use of LNG and nuclear power.

OECD Refinery Gross Output and Trading Patterns

On a year-on-year basis, OECD total product gross output in June contracted by 4.1% (1.8 mb/d).  All three OECD regions posted lower output, with Europe contracting the most (7.0% or 1.1 mb/d).  In North America, output decreased by 2.6% (589 kb/d) while in the Pacific by 2.4% (164 kb/d). In contrast, June OECD output were up 0.9% versus May, driven by North America and the Pacific and by gasoline and other products.  OECD gasoline gross output increased by 4.6% or 665 kb/d annually, and was partially offset by lower net imports, which fell 197 kb/d.  Most of the increase in gasoline gross output (556 kb/d) occurred in North America, with a concurrent decrease in net imports of 307 kb/d.

Gasoil/diesel gross output declined the most (by 7.8% or 1.0 mb/d), with both output and net exports in North America contracting by 653 kb/d and 255 kb/d, respectively.  In Europe, both gross output and net imports fell by 386 kb/d and 84 kb/d, respectively.  Fuel oil gross output fell by the largest amount in percentage terms (16%), equivalent to 622 kb/d, of which 325 kb/d were in Europe, matching a year-on-year contraction in demand of 13.5%.