Oil Market Report: 10 December 2010

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Highlights

  • Cold winter weather hard on the heels of exceptional 3Q10 global demand growth pushed prices to two-year highs over $90/bbl by early December. Prompt demand strength saw price structures favour the front end of the curve and focus is again firmly on market fundamentals. At writing, benchmark crudes were trading at $88-$91/bbl.
  • Global oil product demand is revised up by 130 kb/d to 87.4 mb/d in 2010, and by 260 kb/d to 88.8 mb/d in 2011, on stronger data from OECD North America and non-OECD Asia. Growth in 2010 (+2.5 mb/d y-o-y) is largely driven by buoyant gasoil demand, notably in 3Q10, but expansion should slow to +1.3 mb/d in 2011 as temporarily supportive factors fade.
  • Global oil supply rose  by 0.4 mb/d to 88.1 mb/d in November, largely due to increased non-OPEC production, notably from Canada, Kazakhstan and Brazil. Non-OPEC supply now averages 52.8 mb/d in 2010 and 53.4 mb/d in 2011, representing growth of 1.1 mb/d and 0.6 mb/d, respectively. OPEC NGLs output is seen averaging 5.3 mb/d this year and 5.8 mb/d in 2011. 
  • OPEC crude oil production in November inched higher, by 45 kb/d to 29.2 mb/d. Effective spare capacity stands at 5.6 mb/d. The 'call on OPEC crude and stock change' for 2011 is raised by 100 kb/d this month, to an estimated 29.5 mb/d, on higher demand projections.
  • October OECD industry stocks built by a modest 0.7 mb to 2 745 mb, or 60.1 days, as crude builds balanced out product draws in Europe and North America. Preliminary data point to an 8.4 mb decline in November OECD inventories, but oil held in floating storage rose.
  • Global crude runs are estimated to have fallen by 2.2 mb/d in October, as a small increase in the non-OECD failed to offset sharp decline in the OECD, where industrial action in France coincided with peak maintenance in the US and Japan. 4Q10 global throughputs are estimated at 73.8 mb/d, 1.8 mb/d less than 3Q10, but still a healthy 1.3 mb/d above a year ago.
  • An update of June's medium-term projections to 2015 includes similar GDP and price assumptions, but with baseline estimates for supply and, most notably, demand revised sharply higher. Despite a stronger non-OPEC supply outlook, spare capacity tightens in the Base Case to 3.6 mb/d by 2015. A weaker GDP case shows spare capacity remaining more stable near current levels.

Taking stock

2010 buoyancy seen easing in 2011

November crude prices continued the uptick evident since August, gaining 3% to average around $85/bbl for the month and touching $90/bbl in early December. Middle distillates cracks have also looked strong. Fingers still point at shadowy 'speculative' inflows to futures and derivatives markets, but a more plausible foundation for price strength lies with now apparent 3Q fundamentals. Upward demand revisions have outstripped those for supply, and suggest that global demand grew by a giddy 3.3 mb/d year-on-year in 3Q (42% of which was gasoil/diesel). This implies a global net stock draw of some 1.3 mb/d, the largest since 4Q07, showing that fundamentals do matter, even if they sometimes only become evident after the event.

Fourth quarter supply and demand look better balanced, assuming OPEC production remains flat at recent levels (OPEC ministers meet in Quito on 11 December). Although economic concerns remain skewed to the downside (not least if current high prices begin to act as a drag on growth), more immediately demand could surprise to the upside. Recent harsh northern hemisphere weather, allied to electric power rationing in China, if sustained, could push short-term demand (again, largely gasoil/diesel) higher and tighten market balances further. However, cheap gas prices and an ongoing structural shift away from oil in industry and power generation suggest the sensitivity of OECD demand in the event of cold weather is diminishing over time. Either way, global demand growth should ease in 2011, from 2.5 mb/d to 1.3 mb/d, amid renewed structural OECD decline, and as post-recession froth in markets like China subsides.

Underlying assumptions for 2011-2015 similar to June

As last year, the December OMR presents an update of the medium-term projections generated in June. This update revisits the economic growth and oil price assumptions deployed then, and incorporates supply and demand baseline changes noted over the last six months. Oil supply and refining capacity new-build plans are revisited, as are assumptions on activity levels and decline rates, where appropriate.

The futures price strip deployed as our starting point remains in a similar $75-$85/bbl range, albeit 2011-2013 prices come in marginally higher than in June. Trend economic growth for 2010 onwards under the base case remains close to 4.5% annually (based on the IMF's October outlook), while a lower variant nearer 3.3% continues to be run in parallel. In short, there is not much change in background assumptions, albeit baseline 2010 supply and demand levels look higher than they did in June.

Medium-term demand rising off a higher base

OECD oil demand has proven stronger in 2010 than estimated at mid-year amid a post-recessionary bounce and off-trend weather patterns, which boosted 3Q10 oil demand in particular. However, renewed structural decline remains the most likely OECD trend going forward. Weakening economic growth next year, and an assumption that temperatures revert to ten-year averages, suggest that OECD demand could fall by around 0.3 mb/d per year between now and 2015. The prospect of low natural gas prices reinforces the trend. But anticipated OECD weakness is offset by growth of nearly 1.5 mb/d annually in the non-OECD, much of it from middle distillates. Non-OECD demand has averaged within 0.6 mb/d of our earlier estimates so far in 2010. Looking forward, the key difference in our lower GDP sensitivity is that non-OECD demand growth slows to a more modest 1.1 mb/d annually, given the greater oil intensity in developing countries. In both scenarios, absolute levels of non-OECD demand come to dominate the global picture by 2014, in much the same way non-OECD growth has done since 2005. Better data is needed on non-OECD fundamentals if we are to fully capture evolving market trends, while consumer responses to high crude prices there are also frequently obscured by end-user subsidies. 

All told, the demand baseline for 2010/2011 is around 1.1 mb/d higher than we anticipated in June. Demand reaches 93.4 mb/d by 2015 in the base case (1.5 mb/d higher than previously) and 91.5 mb/d in the lower growth case. Once again, the difference between the two cases can be summarised as annual growth of 1.2 mb/d post-2010 in the Base Case on the one hand and 0.8 mb/d per year growth in the lower GDP case on the other.  The difference may appear marginal, but nonetheless has profound implications for the shape of the global oil market balance looking forward to 2015.



Oil supply activity remains buoyant

Sustained high prices, elevated upstream activity levels, and a lull in cost inflation have seen oil supply in 2010 again exceed initial expectations. 2010 non-OPEC supply is now estimated at 52.8 mb/d and is some 0.6 mb/d higher than projected in June. Much of this derives from the Americas, with Mexico successfully moderating earlier steep decline rates and US onshore and NGL supply helping offset drilling delays from the Macondo disaster in the Gulf of Mexico (which trim a gross 0.3 mb/d off 2015 GoM supply). For now, we do not assume more widespread fall-out from the Macondo spill, at least for the medium term, and deepwater production's share rises from 6% to 8% of total supply by 2015 and from 22% to 28% of offshore production. Non-OPEC supply continues to grow through 2015, reaching 54.0 mb/d. However, conventional crude oil (increasing in Brazil, Colombia, the Caspian and Russia) generates only around 10% of expected non-OPEC growth (+255 kb/d for 2009-2015), with the bulk coming instead from biofuels (+0.8 mb/d for 2009-2015, to reach 2.4 mb/d), oil sands, NGLs and other liquids.

The expected profile for OPEC crude production capacity remains similar to that in June, with a net increase of 2.1 mb/d to 36.9 mb/d now expected, compared with an equivalent gain of 1.9 mb/d six months ago.  While difficulties remain, the outlook for both Iraq and Nigeria has improved marginally.  But among OPEC and non-OPEC producers alike, local engineering content contract clauses are causing bottlenecks and delays. All told, Iraq (+1.1 mb/d), the UAE (+0.5 mb/d), Angola (+0.4 mb/d), Saudi Arabia (+0.4 mb/d) and Libya (+0.2 mb/d) generate the bulk of capacity growth. Meanwhile, expectations for Iran have soured, with capacity expected to fall from 3.9 mb/d to 3.1 mb/d by 2015 as reinforced sanctions delay new projects and accelerate field decline.

OPEC NGL and condensate supply in 2010 has been trimmed by 0.1 mb/d to 5.3 mb/d. On average, the supply outlook has been scaled back by 0.3 mb/d since June, again reflecting a weaker trend from Iran. Nonetheless, healthy growth is still expected as domestic gas use and LNG export capability is ramped up. Gas liquids supply increases by 2.2 mb/d to reach 7.1 mb/d in 2015, with growth centred on Qatar, Iran, UAE and Saudi Arabia.

Just as post-recession demand growth is expected to ease, so the near-2 mb/d growth in annual supply capacity evident in 2009 and 2010 may equally not be sustained. For the medium term, claims about a physical oil supply peak seem very wide of the mark. Nonetheless, against a backdrop of nearly 3 mb/d lost each year from mature field decline, the industry still has to run pretty hard just to stand still. From next year onwards through 2015, amid a lull in OPEC crude capacity start-ups, feasible capacity growth could therefore level out at closer to 1.0 mb/d per year. 

Refining - 'build, baby, build'

Globally, sustained weak margins in 2010 have done little to stem enthusiasm for new refining capacity. If anything, this year's buoyant demand growth has only added to the potential new capacity juggernaut we envisaged for the medium term back in June. Distillation capacity (CDU) additions for 2009-2015 now total a weighty 9.2 mb/d, around 0.2 mb/d higher than previously projected. A further 15 mb/d combined of upgrading and desulphurisation capacity is also planned.  Reflecting steady demand growth, and sizeable upgrading capacity additions, 2015 refinery processing gains are now estimated at 2.5 mb/d, around 0.2 mb/d higher than in our previous report. These are added to oil supply in our global market balance.

Nearly 40% of the new CDU capacity is expected to be built in China and 70% is accounted for by the broader Asia and Middle East regions. In contrast, and reflecting weakening local demand and low operating rates (French strikes and buoyant diesel/heating oil demand have provided limited respite), identified OECD capacity closures for 2009-2015 now stand at 1.4 mb/d, around 0.4 mb/d higher than we foresaw in June. More rationalisation is likely to come, albeit stringent exit regulations and high costs will mean closures lag the levels necessary to fully restore utilisation rates and margins to mid-2000s levels.  

Pulling it all together - the global balance to 2015



Baseline supply and demand estimates for 2009/2010 are revised higher. Economic recovery is underway, notably among the developing economies, but the industrial sector and public finances in the OECD continue to provide cause for concern. Two years on from when the financial crisis morphed into broader economic recession, it is still difficult to plot likely economic growth levels looking forward - hence we retain twin demand scenarios, albeit the higher GDP trend represents our Base Case. High crude prices and improving end-use efficiency restrict oil demand growth to 1.2 mb/d annually post-2010, while the lower case sees demand growth nudge well below 1 mb/d. In both cases, non-OECD countries dominate growth and absolute demand, accounting for 52% of the market by 2015. Middle distillate growth predominates, suggesting once again a likely bottleneck that refiners will have to deal with.



Although upstream activity has been buoyant throughout 2010, and non-OPEC supply prospects in particular look brighter than they did in June, it remains difficult to expand the global supply base quickly.  Our own analysis suggests 1 mb/d of net year-on-year growth might be as much as the global industry can manage on a sustained basis through 2015.  With a 'call on OPEC crude and stock change' breaking through 32 mb/d by 2015 in the Base Case, this is likely to see a narrowing in the margin of spare capacity from recent 5 mb/d levels to around 3.6 mb/d in 2015, symptomatic of a tightening, and potentially more jittery, market.

Once again, the reality of a market driven by developments at the margin is demonstrated by comparison with the lower GDP case. Here, weaker demand growth could leave OPEC spare capacity flat around recent 5 mb/d levels through 2015. As we noted in June however, a 6% margin of supply flexibility hardly looks like a cause for sharply weakening markets. Indeed we continue to argue that maintaining this valuable supply cushion should provide the impetus for sustained investment in both new supplies for the future and ongoing efforts to improve the efficiency with which oil is used in transportation and industrial markets.  



Demand

Summary

  • Forecast global oil product demand for 2010 and 2011 is revised up by 130 kb/d and 260 kb/d, respectively, largely on higher-than-expected submissions in OECD North America and non-OECD Asia. Global oil demand is now estimated at 87.4 mb/d for 2010 (+2.9% or +2.5 mb/d year-on-year), and is expected to rise to 88.8 mb/d in 2011 (+1.5% or +1.3 mb/d year-on-year). Final monthly data submissions indicate that 3Q10 growth was as high as 3.3 mb/d (+3.8% year-on-year), largely driven by a strong rebound in the OECD, which matched almost exactly non-OECD growth. In terms of products, gasoil accounted for 42% of global 3Q10 growth, expanding by over twice as fast as in 2Q07-3Q08, and is on track to rise by 4.1% in 2010 - only slightly below the previous two peaks on record (+4.6% in 1996 and +4.8% in 2004).
  • Projected OECD oil demand for 2010 and 2011 is adjusted up by 0.1 mb/d on average, following slightly stronger-than-expected submissions in North America and Europe. In addition, the 2011 US outlook is nudged up following a reappraisal of gasoline prospects. Nonetheless, total OECD demand, currently assessed at 45.9 mb/d in 2010 (+1.1% or +500 kb/d year-on-year), is still expected to decline in 2011 (-0.5% or -230 kb/d versus 2010).


  • Estimated non-OECD oil demand for 2010 and 2011 is raised by 90 kb/d on average, mainly on higher Asian readings. According to preliminary data, Chinese demand soared by an astonishing +12.6% year-on-year in October, driven by extensive use of small-scale gasoil generators in order to circumvent government-mandated closures of coal-fired electricity plants and compounded by increased demand from the agricultural sector. Total non-OECD demand is now projected at 41.5 mb/d in 2010 (+5.0% or +2.0 mb/d year-on-year) and 43.1 mb/d in 2011 (+3.7% or +1.6 mb/d versus 2010).
  • Medium-term global oil product demand is now expected to be 1.1 mb/d higher on average over 2009-2015 when compared with the Medium-Term Oil & Gas Markets report, released last June, with changes primarily related to baseline revisions and higher GDP assumptions, notably for 2010. Overall, global oil demand is seen rising from 85.0 mb/d in 2009 to 93.4 mb/d in 2015, equivalent to +1.6% or +1.4 mb/d per year on average (+1.2 mb/d annually post-2010), a pace of expansion slightly higher versus June's MTOGM. Growth comes entirely from non-OECD economies, which will account for more than half of global demand as early as 2013, with the gap broadening sharply by 2015 (48.9 mb/d versus 44.5 mb/d for the OECD). Under a 'lower GDP cum slower efficiency gains' case, global demand would increase by a lesser 1.2% or 1.1 mb/d per year on average (+0.8 mb/d post-2010), reaching 91.5 mb/d by 2015, a difference of 1.9 mb/d in total versus the base case.

Global Overview

Following official data submissions for September, the extent of the 3Q10 demand spike has become clearer. Global oil product demand increased by 3.3 mb/d year-on-year (some 0.2 mb/d higher when compared with our previous report). This rise was largely driven by a strong rebound in the OECD, where growth roughly doubled from the previous quarter (from +0.7 mb/d in 2Q10 to +1.6 mb/d in 3Q10), matching almost exactly non-OECD growth.



Gasoil is once again leading global demand growth, accounting for 42% of the total increment in 3Q10. Moreover, gasoil demand expanded by over twice as fast as in the most recent episode of demand strength (+5.8% year-on-year in 3Q10 versus +2.6% on average over 2Q07-3Q08, the period when oil prices began their rapid ascension). Not surprisingly, oil prices reacted accordingly, rising markedly in 3Q10. However, surplus refining capacity, evident since the eruption of the global recession, helped absorb the surge in gasoil demand. This stands in contrast to 2008, when refining constraints, limited availability of light sweet crude, low crude production spare capacity, tightening OECD diesel specifications and booming non-OECD gasoil demand combined to propel oil prices to record highs.



Gasoil demand growth is expected to moderate only marginally in 4Q10, owing largely to China's policy-driven boost on the back of coal-fired power shortages. As such, gasoil could account for as much as 65% of demand growth in this quarter. By end-year global gasoil demand will have surpassed its pre-recession levels (25.2 mb/d in 2010 versus 24.8 mb/d in 2008), and should further increase to 25.8 mb/d in 2011, representing close to a third of total demand and about 40% of growth. In terms of relative change, gasoil demand is on track to rise by 4.1% in 2010 - only slightly below the previous two peaks on record (+4.6% in 1996 and +4.8% in 2004).



Medium-Term Update

As customary, this report updates our medium-term demand outlook, last released in mid-year (Medium-Term Oil & Gas Markets, June 2010). Overall, compared with June's MTOGM, global oil demand is projected to be some 1.1 mb/d higher on average over the forecast period, rising from 85.0 mb/d in 2009 to 93.4 mb/d in 2015, equivalent to +1.6% or +1.4 mb/d per year on average. Growth - slightly higher than in the June appraisal - comes entirely from non-OECD economies (+1.6 mb/d per year on average compared with -0.2 mb/d per year for the OECD). As such, emerging countries will account for more than half of global demand as early as 2013, with the gap broadening sharply by 2015 (48.9 mb/d versus 44.5 mb/d for OECD countries), continuing a structural shift that began in the early 2000s.



Even though the global economic recovery has been surprisingly strong so far this year, in addition to our 4.5% per year GDP growth base case (derived from the IMF's October 2010 outlook), we also maintain our alternative, 'lower GDP cum slower efficiency gains' case. Therein, global GDP growth would expand by only 3% on average - roughly a third less than in the base case. Indeed, the global economy still faces considerable headwinds that could derail the recovery - including continuing turmoil in Europe, with sovereign debt defaults now a distinct possibility, sluggish growth and high unemployment in the US, and overheating and hard-landing risks in China. We continue to deploy the prevailing futures strip as our pricing assumption, which remains within a $75-$85/bbl range for 2010-2015. In addition, we uphold our belief that weaker economic expansion would also result in a slower improvement in efficiency, with oil intensity diminishing by 2% per year over 2010-2015 - instead of 3% as posited by the base case, broadly reflecting historical trends. Under the illustrative lower case, global demand would increase by a lesser 1.2% or 1.1 mb/d per year on average to 91.5 mb/d by 2015, a difference of 1.9 mb/d versus the base case.



The changes to the oil product demand prognoses are primarily related to baseline revisions and higher GDP assumptions, notably for 2010. Total revisions, initially roughly evenly split between the OECD and the non-OECD, tend to compound slightly for the OECD by the end of the forecast period. This is due to a reappraisal of oil product demand prospects in OECD North America and the Pacific. On the one hand, projected gasoline demand in the US is now seen falling at a somewhat slower pace than previously assumed, as the gains in efficiency resulting from more stringent vehicle standards now look likely to be less immediate. On the other hand, the prognosis for the Pacific now incorporates a less pronounced decline in residual fuel oil (-9% per year instead of -14%). Meanwhile, non-OECD revisions are mainly driven by the Middle East, Asia, FSU and Latin America.



OECD

According to preliminary data, OECD inland deliveries (oil products supplied by refineries, pipelines and terminals) were virtually flat in October (+0.1% year-on-year). As the extremely high temperatures that prevailed in previous months in OECD Pacific came to an end, the use of residual fuel oil and direct crude burning for power generation, which had largely sustained demand, receded, compounding a renewed weakness in distillate demand. In OECD Europe, there was a pause in consumer heating oil re-stocking, while demand for light products and fuel oil fell. Only OECD North America (which includes US Territories) posted healthy oil product demand growth, notably on a continued rebound in distillate deliveries.

Still, as final official submissions came in, revisions to preliminary data were hefty (+500 kb/d in September), highlighting the extraordinary and largely unanticipated strength of 3Q10 demand. Indeed, total OECD demand surged by 3.9% year-on-year in September, roughly twice as fast as implied by preliminary data. In North America (+330 kb/d), US readings once again vastly exceeded adjusted weekly estimates, especially for gasoline. In Europe (+200 kb/d), distillate demand was much stronger, notably in Germany and Turkey. In the Pacific, by contrast, overall revisions were insignificant (-20 kb/d).



Looking ahead, OECD oil product demand is now estimated at 45.9 mb/d in 2010 (+1.1% or +500 kb/d year-on-year). This is 60 kb/d higher than previously anticipated, largely reflecting a more buoyant assessment of North America's prospects in 4Q10. Although this adjustment is mostly carried forward, OECD demand is still expected to decline in 2011 (-0.5% or -230 kb/d versus the previous year but 150 kb/d higher when compared to our last report).



North America

Preliminary data show oil product demand in North America (including US territories) rising by 2.0% year-on-year in October, following a 4.7% increase in September. Growth has been remarkably strong over the past two quarters, averaging 3.8% from April to September. If upheld, the weak October preliminary readings - which stemmed from unseasonably low LPG and residual fuel oil demand in the US and from weaker gasoline and jet fuel/kerosene readings - would thus signal a notable slowdown. Still, middle distillate demand has shown few signs of abating, with diesel growing by an estimated 10.5% year-on-year. Yet, even though we have raised slightly our outlook for 4Q10 and 2011, we remain cautious given less buoyant US weekly data for November.

September data were revised up by 330 kb/d, mostly in the US, highlighting once more the uncertainty surrounding weekly US data. Weekly to monthly revisions for September went yet again against the trend of the previous twelve months, confounding our own efforts to anticipate adjustments. For North America as a whole, gasoline (+170 kb/d) and LPG (+160 kb/d) led the upward adjustments, which were partly offset by weaker 'other products'. Part of the total revision has fed through to October (+210 kb/d), with 4Q10 now seen 140 kb/d higher. North American demand is now estimated at 23.9 mb/d in 2010 (+2.4% or +550 kb/d versus 2009 and 60 kb/d higher than our last report). Demand in 2011 is seen rising slightly, but remains near 23.9 mb/d (+0.1% or +20 kb/d year-on-year and 100 kb/d higher than our last report).



Adjusted preliminary weekly data to 26 November for the United States (excluding territories) indicate that inland deliveries - a proxy of oil product demand - grew by only 0.9% in November following a 2.0% year-on-year rise in October. November data featured a sharp year-on-year decline in LPG, mostly due to falling propane deliveries. However, colder weather compared to a warmer-than-normal November 2009 helped boost heating oil (+43.1%) and residual fuel oil (+17.6%), while both jet fuel/kerosene (+2.9%) and diesel (+8.4%) posted solid growth. Though gasoline demand grew by 1.0%, it remains below an upwardly revised September, when growth was as high as 2.9% (see No Reverse Gear Yet: US Gasoline Demand Plods Ahead).



Mexican oil demand fell by 1.0% year-on-year in October, according to preliminary data, largely on weaker readings for residual fuel oil, gasoline and jet fuel/kerosene, which offset strong gasoil deliveries (+2.6%). Residual fuel oil demand was sharply lower (-30.9%) relative to drought-affected October 2009, while gasoline declined by 2.0% and jet fuel/kerosene by 12.8%. The persistent weakness in the latter product has stemmed from the bankruptcy of air carrier Mexicana last August. The airline accounted for almost one-third of Mexico's domestic airline capacity and over 15% of international flights. A restructuring plan seeks to renew flights by mid-January, though initial capacity may be much lower than pre-bankruptcy levels. Although other domestic airlines and US carriers are increasing flights to help meet demand, we have trimmed our jet fuel/kerosene outlook by 10 kb/d and 5 kb/d for 4Q10 and 2011, respectively. Should efforts to restore capacity falter, this prognosis could be further revised down.



No Reverse Gear Yet: US Gasoline Demand Plods Ahead

The resilience of US gasoline demand has been a surprise in recent months. Even though growth over the June-August summer driving season was 1.2% year-on-year higher when compared to 2009, demand was still 220 kb/d below the 2007 summer. Yet an upward revision to September demand (+175 kb/d) has blunted the normally sharp seasonal fall that occurs after summer's end - over the previous ten years, gasoline demand fell on average by 450 kb/d from August to September, versus just 230 kb/d this year. Part of this strength may derive from a relatively late Labor Day holiday weekend, but it also stems from rising vehicle-miles travelled (VMTs), which grew by 1.6% year-on-year in both August and September. Since the start of the economic downturn, VMTs have held up better than gasoline demand; as such, recent gains in the latter may reflect a degree of catching-up.

However, the narrowing gap between gasoline demand and VMTs may also signal slower efficiency gains for the US vehicle fleet. While we still expect improved vehicle efficiency to reduce gasoline use over the medium-term, we have slowed the pace of demand decline from our June forecast, based on lower-than-expected fleet turnover in 2010. Through November, light vehicle sales have grown by 9% year-on-year on average, but current sales (at just over 12 million vehicles per month) remain far below pre-crisis readings (16-17 million per month). In addition, sales have recently begun again favouring less efficient light trucks versus passenger cars, with the former accounting for 52% of vehicle purchases over the past three months.



Even though it is impossible to appraise the US vehicle fleet's current average size and efficiency, our analysis suggests that the fleet's fuel economy may have increased by less than expected in 2010 versus 2009. As such, our short and medium-term demand forecasts have been adjusted upwards. While 2011 gasoline demand is now seen largely flat relative to 2010, the pace of decline from 2012-2015 now stands at -0.6% annually, versus -0.8% previously.

Europe

Preliminary inland data indicate that oil product demand growth in Europe declined by 1.1% year-on-year in October, as somewhat weaker heating oil deliveries (+4.2%, compared with double-digit growth in the previous three months) failed to offset losses in the lighter end of the barrel (LPG, naphtha and gasoline) and in residual fuel oil. Meanwhile, revisions to September preliminary demand data (+200 kb/d) were driven by stronger-than-expected distillate deliveries, notably in Germany and Turkey. Overall, demand increased by +1.9% in September, almost three times as much as suggested by preliminary readings, thus contributing to raise annual estimates. Oil product demand in OECD Europe is now assessed at 14.4 mb/d in 2010 (-0.8% or -120 kb/d compared with the previous year and 10 kb/d higher than previously expected), declining further in 2011 to 14.3 mb/d (-0.7% or -100 kb/d versus 2010, and 50 kb/d higher versus last month's report).



Watching the Mercury

Very low temperatures in northern Europe during November and early December have prompted some analysts to revise up their winter 2010/2011 heating demand estimates. However, with perennial uncertainties over the duration of colder-than-normal weather, and the fact that OECD oil use for heating and power generation is in any case structurally declining, we are not tempted to change our outlook at this time.

A simple examination of the five coldest first quarters over the last decade suggests that OECD oil demand estimates have been prone to sharp swings, ranging from zero to 350 kb/d versus the original forecast for that quarter whenever heating-degree days (HDDs) have been 5% higher than normal on average. Yet, given structural interfuel substitution, the weather impact has receded over time.

Taking 1Q10 as a more representative example, when HDDs in the OECD were 7.7% higher than the ten-year average, our oil demand estimate for the OECD was adjusted up by only 0.3% from the original forecast. A recurrence of that trend in 1Q11, should temperatures remain very low for the entire quarter, might therefore add only around 140 kb/d to OECD demand - or even less, since oil is unlikely to compete against cheap natural gas. As such, we continue to forecast demand assuming that average temperatures in the OECD will revert to their ten-year trend, and therefore have made no significant upward adjustment on the basis of recent low temperatures.

Heating oil deliveries in Germany, the region's largest user, increased by 'only' 16.2% year-on-year - almost two-thirds less than in September (revised up to +43.6%). Consumer stocks stood at 63% of capacity, slightly higher than in September (62%) but somewhat below the five-year average. Meanwhile, LPG and naphtha deliveries fell sharply (-14.2% and -16.8%, respectively). The LPG fall is probably related to high propane and butane prices, following maintenance at various gas-processing facilities across Europe. Oddly, this failed to translate into greater naphtha use. This could be due to limited availability of naphtha-running units and to rising naphtha prices as a result of the French strikes.



In France, meanwhile, the effects of October's social unrest were evident in jet fuel/kerosene demand, which plummeted by 11.3% year-on-year (given strikes by air traffic controllers, compounded by supply disruptions by oil refinery workers). By contrast, diesel demand actually rose by 2.5%; arguably, panic buying in the first half of the month more than offset the shortages of the second half (which, in addition, were largely concentrated in western France, although the Paris metropolitan area was also badly affected). Finally, the weakness in residual fuel oil delivery was largely concentrated in Italy, where natural gas has become the fuel of choice for power generation.



Pacific

Preliminary data show that oil product demand in the Pacific tumbled by 3.6% year-on-year in October, as the heat wave that prevailed in the previous months subsided, removing support for oil-based power generation. As such, the pace of growth of residual fuel oil demand softened markedly (+7.6% versus +22.0% in September), while direct crude burning (included in 'other products') plummeted (-27.4% compared with +22.8% in the previous month).



A seasonal drop in gasoline and distillate deliveries in Japan further compounded the slowdown. It is worth noting that LPG demand also plunged (-15.8%), notably in Japan and Korea. As in Europe, this could be related to higher prices for propane and butane, relative to naphtha, but could also signal a renewed bout of weakness of the region's petrochemical industry, which faces increasing competition from other areas. Revisions to preliminary September data, meanwhile, were minimal (-20 kb/d). Consequently, the outlook for total OECD Pacific demand remains virtually unchanged, at 7.7 mb/d in 2010 (+0.9% or +70 kb/d year-on-year) and 7.6 mb/d in 2011 (-2.0% or -150 kb/d).



Non-OECD

Preliminary demand data show that non-OECD demand growth accelerated markedly in October (+5.2% year-on-year). Growth was buoyant across all product categories bar LPG, and continued to be led in absolute terms by gasoil (roughly a third of total oil product demand growth), although jet fuel/kerosene posted the highest relative increase.



On a regional basis, oil demand growth in Asia dwarfed that of all other regions. At almost +1.3 mb/d or +6.7% year-on-year, Asian demand growth in October was almost a third higher than in September. China, with +1.1 mb/d, accounted for 87% of Asian growth and for almost half of non-OECD growth. Looking ahead, non-OECD demand is expected to reach 41.5 mb/d in 2010 (+5.0% or +2.0 mb/d year-on-year and 70 kb/d higher than previously anticipated), rising further in 2011 to 43.1 mb/d (+3.7% or +1.6 mb/d versus the previous year and 110 kb/d higher when compared to our last report).



China

China's preliminary data show that apparent oil demand rose by +12.6% year-on-year in October, with all product categories bar LPG featuring strong gains. This pace of expansion is roughly twice as fast as in September (+6.2%), seemingly putting to rest the widespread assumption that oil demand growth would noticeably slow down in 2H10 (and resulting in a +0.3 mb/d 4Q10 revision versus our last report).

Admittedly, as noted last month, the current demand strength is largely related to a surge in gasoil consumption (+8.9% year-on-year in October). It has been driven by extensive use of small-scale electricity generators in order to circumvent closures of coal-fired plants imposed by local governments - in a last-ditch effort to meet the country's ambitious target to reduce energy intensity as the end of the 11th Five-Year Plan (2006-2010) approaches - and has led to gasoil shortages in several provinces. The tightness has been further exacerbated by increased gasoil demand from the agricultural sector, as the harvesting season begins. Interestingly, the gasoil shortages have also helped revive residual fuel oil demand (+45.1%), presumably because independent 'teapot' refineries have found it advantageous to refine this feedstock and produce off-spec gasoil, despite high fuel oil import taxes. By contrast, it remains unclear whether the recent price hike will be sufficient to prompt state-owned companies to boost gasoil yields significantly, despite increasing refinery runs. In the meantime, the rise in gasoil demand has also partly been met by stock draws, with inventories falling by almost 5.6 mb or 11% month-on-month. In addition, some observers reckon that China may have become again a net gasoil importer in November for the first time in two years.



The strength of China's oil demand is consistent with other indicators suggesting that the economy is in danger of overheating. Not only does GDP growth continue to hover around the 10% mark, but inflation is also creeping up. The official headline inflation (+4.4% year-on-year in October) hides the fact that food prices have sharply risen (vegetables are up by over 60%, according to some estimates), which could herald rising domestic tensions if left unchecked. The government has reacted by announcing a series of price controls targeting several commodities, and has vowed to fight 'speculators'.



More importantly, as far as oil demand is concerned, is whether such administrative measures will succeed in curbing inflation - or whether the government will be obliged to tackle the main cause of inflation, namely runaway bank lending, and by doing so inadvertently engineer a hard economic landing. Indeed, recent efforts to tighten monetary policy have mostly focused on raising banks' reserve requirements. Bank lending, by contrast, is on track to average some $110 billion per month this year, despite two recent interest rate raises - well ahead of the government's yearly target (about $1.1 trillion at current exchange rates) and almost equivalent to the US QE2. We are not factoring in such a potential hard landing at this point - oil demand is still expected to rise by 4.8% or 450 kb/d year-on-year in 2011, 120 kb/d higher than in our last report - but if it were to occur, it would surely curb oil use sharply.

Other Non-OECD

According to preliminary data, gasoline demand in Iran plunged by 18.1% in September, possibly reflecting supply problems despite the government's claims that petrochemical-based gasoline production has helped largely to offset import restrictions. As such, 3Q10 gasoline demand was down by almost 60 kb/d quarter-on-quarter, mimicking a similar fall in 2007 following the introduction of the rationing scheme.



Meanwhile, the Iranian government has once again postponed the implementation of oil product subsidy-removal legislation, voted in January and due to begin by late October (having been already delayed from late September). Aside from the technical challenges - handing targeted cash handouts, as a compensation for the withdrawal of subsidies, to some 61 million Iranians (out of a population of 73 million) - the main obstacle is allegedly political, as the probable surge in inflation and likely social protests could significantly weaken the current administration. It thus remains to be seen whether these demand management measures will be put in place at the end of the Iranian month of Azar, which begins on 22 November, as announced, or whether they will be postponed again - perhaps indefinitely.



Supply

Summary

  • Global oil supply rose by 400 kb/d to 88.1 mb/d in November, its highest-ever level, largely on increased non-OPEC production. Global output is up by 1.6 mb/d over year-ago levels, of which half stems from higher non-OPEC supply, one-third from OPEC NGLs and one-sixth from OPEC crude.
  • OPEC crude oil production in November was marginally higher, up by 45 kb/d to 29.2 mb/d. OPEC ministers are unlikely to address output targets at their meeting on 11 December in Quito, Ecuador. Against a backdrop of much stronger-than-expected global oil demand growth, however, OPEC may come under pressure to increase supplies to the market in the new year if prices continue their relentless rise. The 'call on OPEC crude and stock change' for 2011 is raised by 100 kb/d this month, to an estimated 29.5 mb/d, on higher demand projections.
  • Non-OPEC supply is estimated at 53.4 mb/d in November, up 300 kb/d versus October levels, on higher Canadian and Kazakhstani output post-maintenance, and rising Brazilian crude following safety-related platform shut-ins. Non-OPEC output averages 52.8 mb/d for 2010 and 53.4 mb/d in 2011, representing growth of 1.1 mb/d and 600 kb/d, respectively. OPEC gas liquids supply rises by 0.5 mb/d in both 2010 and 2011, to average 5.8 mb/d next year.
  • An updated medium-term outlook sees global supply capacity rising from 91.4 mb/d in 2009 to 98 mb/d by 2015. The total is 1.5 mb/d higher than in the June MTOGM, largely due to improved non-OPEC supply prospects, while lower OPEC NGL capacity estimates offset now slightly higher OPEC crude capacity projections.
  • OPEC crude capacity is expected to increase by 2.1 mb/d, to 36.9 mb/d, by 2015 while OPEC's condensate and natural gas liquids (NGL) capacity is now forecast to rise by 2.3 mb/d to 7.1 mb/d over the same period.
  • Non-OPEC supply growth by 2015 is more than doubled compared to the June MTOGM, to 2.3 mb/d, with total output seen rising from 51.7 mb/d in 2009 to 54.0 mb/d in 2015. A significantly brighter outlook for US onshore and unconventional crude as well as gas liquids more than offsets the impact of protracted drilling delays in the Gulf of Mexico. Chinese and Russian supply prospects are also revised up, while slippages adversely impact Canadian oil sands projects.


All world oil supply figures for November discussed in this report are IEA estimates. Estimates for OPEC countries, Alaska, Peru and Russia are supported by preliminary November 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 production in November was marginally higher, up by 45 kb/d to 29.24 mb/d. Increased supplies from Saudi Arabia, Iraq, Qatar and Iran totalling 185 kb/d were partially offset by an 80 kb/d drop in Nigeria, combined with smaller declines of 10-30 kb/d from the remaining member countries.

Crude oil production by OPEC-11 was pegged at 26.76 mb/d in November, unchanged from the previous month. The group is now producing about 1.9 mb/d above its 24.845 mb/d output target. Relative to targeted output cuts, OPEC's compliance rate was also unchanged at 54% in November.



However, OPEC ministers are unlikely to address compliance issues or target allocations at their meeting on 11 December in Quito, Ecuador. Pre-meeting statements by OPEC ministers suggest the group is planning on a quick agreement to roll over existing output targets, despite the unexpected jump in global oil demand in second-half 2010 and sharp price increases since they last met on 14 October. Early December prices were around $92/bbl for Brent and $90/bbl for WTI, about $10-12/bbl above average October levels.

Against a backdrop of much stronger-than-expected global oil demand growth and oil prices above two-year highs, OPEC may come under pressure to increase supplies to the market in the new year. Our 'call on OPEC crude and stock change' for 2011 is raised by 100 kb/d this month, to an estimated 29.5 mb/d on higher demand projections, equating to about 260 kb/d above the group's current production levels. OPEC has not revised it output targets since end-2008, when the group agreed to cut supplies by a further 2.2 mb/d, effective January 2009, bringing total reductions to 4.2 mb/d since September 2008.

Saudi Arabia's crude oil production averaged 8.34 mb/d for November, up 100 kb/d from October. The November supply assessment is still below some other industry estimates, which see Saudi supplies higher in recent months based on divergent views of crude exports.

Iran also raised output in November, up by 20 kb/d to 3.72 mb/d. Iran appears to have reduced the number of unsold cargoes in floating storage again in November, with volumes held in tankers now estimated at 21.7 mb at end-November compared with 23.6 mb the previous month, according to Gibson Shipbrokers.

Iraqi output rose by 45 kb/d to 2.48 mb/d in November, in part due to an absence of insurgent attacks on infrastructure over the month. Crude oil exports were estimated at 1.93 mb/d in November, with slightly higher northern volumes offsetting a modest decline on southern shipments. Exports of Kirkuk crude were up by 10 kb/d, to 410 kb/d while volumes from Basrah terminals were down by 20 kb/d to 1.52 mb/d. Iraqi production estimates include 585 kb/d of crude used for refinery operations and at power plants, as well as an estimated 35 kb/d of output in the Kurdish region of the country, less 70 kb/d of products spiked into to crude flows.

By contrast, Nigerian supplies were down in November following a surge in militant activity in the volatile Niger Delta region. Nigerian crude output fell by 80 kb/d to 2.12 mb/d, in large part due to an attack on the key Trans-Niger pipeline disrupting supplies of Bonny crude.

A wave of kidnappings is also threatening efforts to restore shut-in production as companies put staff in remote locations, where they are vulnerable to attacks by militants. Even offshore oil operations and workers have become targets following the kidnapping of eight staff and forced shut-in of 45 kb/d at the Oso deepwater oil platform on 14 November. The captives were later freed when Nigerian security forces rescued a total of 19 hostages from numerous kidnappings held at a camp in the mangrove creeks on 17 November. Rebels were quick to announce that they plan more hostage-taking.

Angolan output fell by 20 kb/d, to 1.66 mb/d, due to technical issues at several fields. Problems emerged as the Dalia FPSO was being brought back on line following scheduled maintenance. The Greater Plutonio complex is still producing well below capacity due to ongoing repairs to its water injection system.



Medium-Term OPEC Capacity on Track to Increase to 36.9 mb/d by 2015

OPEC crude capacity is expected to increase by 2.09 mb/d, to 36.94 mb/d, from 2009 to 2015. This represents a revision of 150 kb/d from the 1.94 mb/d expansion envisaged last June. The prospect for an improved geopolitical outlook in the medium term for both Iraq and Nigeria is largely behind the upward revision.

By contrast, an escalation in international sanctions imposed on Iran in the third quarter prompted a downward revision in the country's outlook, partially offsetting the gains from Iraq and Nigeria.

One issue that is increasingly threatening project timelines is the growing insertion of 'local content' clauses in contracts by a number of countries. While on paper the intent is laudable, in practice finding qualified local contractors for what have become increasingly complex developments has led to considerable delays in a number of projects, especially in Nigeria, Angola, Algeria and Libya.

OPEC's condensate and natural gas liquids (NGL) capacity is now forecast to rise by 2.26 mb/d to 7.06 mb/d by 2015. That represents a decrease of around 325 kb/d from our June forecast, with Iran and Saudi Arabia accounting for the bulk of the revision.

Key capacity changes are as follows:

  • Iraq will account for just over 50% of the increase, rising by 1.13 mb/d to reach 3.62 mb/d capacity by 2015. That is about 167 kb/d above the June projection. The slightly higher forecast reflects in large part the long-awaited political progress. After more than a six-month delay, the formation of a new government is expected to help improve the bureaucratic logjam impacting upon the operating environment. Several companies are also logging tangible increases in field production, especially at the Rumaila and Zubair fields. As always, formidable challenges remain, with a lack of much-needed infrastructure on the ground, technical problems such as water reinjection and logistical obstacles continuing to constrain our outlook below official government forecasts.
  • In Nigeria, the production outlook has marginally improved as companies continue to restore long-shut-in production. The 14-month ceasefire period enabled companies to repair some long-damaged infrastructure and raise production to more than 2.2 mb/d earlier this year. Nigerian crude production capacity is expected to increase by 130 kb/d, to 2.79 mb/d by 2015. That represents an upward revision of around 225 kb/d. Equally important, while companies remain concerned over the proposed new 'Petroleum Industry Bill' (PIB), several key projects are moving forward as planned. The next big deepwater project to come online is the Total-operated 180 kb/d Usan field in 2013 followed by the 200 kb/d Egina field in 2014.
  • Our medium-term outlook will rise or fall on the government's success in maintaining the fragile ceasefire accord with former militants as well as adoption of new energy legislation that does not discourage foreign investment. Despite repeated announcements over the past six months that legislators would soon vote into law the new PIB, a final agreement now looks set to be delayed until after the April elections. While political instability continues to threaten the near-term outlook for Nigerian production, we assume for our forecast that a positive outcome will prevail, allowing capacity expansion plans to move forward. Projects awaiting a final investment decision but not included in our forecast include the 135 kb/d Bosi deepwater field and the 110 kb/d Uge field.

  • By contrast, the worsening crisis with Iran over its nuclear ambitions and new sanctions imposed since our last update, have prompted a downgrade in the country's oil outlook. Our assumed Iranian production decline has been intensified since June, with capacity now expected to fall by 810 kb/d, to 3.1 mb/d by 2015. Sanctions have largely stymied participation by IOCs in new projects but, equally, our outlook has also been downgraded on expectations of higher decline rates as the country struggles to secure needed technology and equipment.
  • Algeria's production capacity has also been scaled back from the June forecast, with capacity now largely expected to remain unchanged over the 2009-15 period, at around 1.37 mb/d. The 65 kb/d downward revision from June is due in part to the unexpected, lengthy paralysis at the top management level following the massive corruption scandal that swept through the state oil company at the beginning of 2010. Bureaucratic delays apparently worsened over the year as new management reviewed contracts already awarded which, in turn, has stalled development timelines. In addition, existing unattractive contract terms for technically challenging EOR projects continue to derail capacity expansion plans. With the dust from the scandal still settling it is unclear if Algeria will resume its plans to increase capacity or hold it flat and focus solely on its gas industry.


Growth in OPEC NGLs Slowed

OPEC NGLs production estimates have been revised down by around 325 kb/d from the June report, with Iran accounting for 35% of the revisions again due to the tighter sanctions regime. Iranian NGLs are now forecast to grow by 413 kb/d to 927 kb/d. As before, Qatar will provide the single biggest increment over the five-year period, up by 656 kb/d to 1.36 mb/d. However, Saudi Arabia remains the largest OPEC supplier of NGLs, with growth of just under 300 kb/d pushing volumes to 1.86 mb/d.



Non-OPEC Overview

Non-OPEC supply rose by 0.3 mb/d to 53.4 mb/d in November, its highest this year, with output from Canadian oil sands and Kazakhstan rising following maintenance, and increased Brazilian crude production following safety-related platform shut-downs. Year-on-year, non-OPEC oil supply is 0.8 mb/d higher, with stronger US onshore production, higher Canadian, Russian, Chinese and Brazilian output.

Numerous changes to baseline and expectations have affected the overall forecast. Non-OPEC supply in 2010 is now seen 175 kb/d higher than previously, at 52.8 mb/d. A reappraisal of refinery processing gains lifts 2010 levels by 105 kb/d, which is carried through the forecast (see Processing Gains Update in the Refining section). US 2010 production is also raised by 55 kb/d, largely due to the hurricane season ending without any further storm impact, while Sudan's baseline is lifted by a further 50 kb/d. Offsetting downward adjustments stem from the North Sea and Australia, and marginally lower expected volumes from Latin America.



Estimated non-OPEC supply for 2011 is adjusted 55 kb/d higher in total, to 53.4 mb/d. US Gulf of Mexico crude output is revised down as drilling delays are expected to lengthen (see Longer Drilling Delays Seen in Gulf of Mexico below). Latin American, FSU and Middle Eastern supplies are adjusted lower, but are more than offset by higher forecasts for Norway, China and biofuels. In sum, 2010 non-OPEC supply is now forecast to grow by 1.1 mb/d from 2009 and by a further 0.6 mb/d in 2011. The strongest annual growth in 2011 stems from Latin America (+295 kb/d), followed by biofuels (+190 kb/d), the FSU (+175 kb/d) and China (+125 kb/d), with smaller increments from refinery processing gains (+45 kb/d), Australia & New Zealand (+45 kb/d) and Africa (+40 kb/d). These are only partly offset by decline in North America (-180 kb/d), OECD Europe (-75 kb/d) and Other Asia (-30 kb/d).



Non-OPEC Medium-Term Outlook Now Seen Brighter

In June's MTOGM, recovering oil prices and global oil demand, as well as evidence of a relative cost reduction, renewed upstream investment and a slowing of observed field decline rates, were seen as boosting non-OPEC supply prospects. While these factors are unchanged, with the exception of upstream costs, which appear to have bottomed out, a number of factors have led us to more than double our 2009-2015 non-OPEC supply growth outlook to 2.3 mb/d, with output now seen rising from 51.7 mb/d in 2009 to 54.0 mb/d in 2015.

Firstly, stronger-than-expected production in a number of countries, as well as a baseline revision to China, have resulted in 0.6 mb/d higher 2010 output. Much of this accrues from the US, not least because of only minor storm-related shut-ins in the US Gulf of Mexico this year. US oil production has surprised to the upside on a number of fronts, notwithstanding ongoing delays from the Gulf of Mexico. Onshore supply, both from conventional crude, but also from gas liquids, shale oil plays and refinery additives have been sharply higher than foreseen. On the assumption that this can be sustained, we carry much of this growth forward, which alone provides for nearly half the upward revision.



Other countries for which we have hiked our forecast include China and Russia. China's runaway oil demand growth sometimes obscures that it is the world's fifth-largest producer of oil (after Russia, Saudi Arabia, the US and Iran) and has ongoing incentives to curb its rising crude imports by boosting domestic output. This year has seen consistently higher-than-expected oil production as newer, offshore fields increase output but also, crucially, as older, mature onshore assets curb decline through application of enhanced recovery techniques. These two factors, plus evidence of growth at other key onshore areas, have led us to hike our forecast.

Russia too has seen a series of upward revisions to forecast, as monthly output has outperformed expectations. Projected growth this year of 250 kb/d will likely slow next year after which output is anticipated to plateau and then fall again to around 2010 levels, as decline at mature fields more than offsets new projects. Our forecast is based upon the assumption that key tax incentives are extended and/or adapted in such a manner that upstream investment continues. While this has tended to be the case historically, it nonetheless represents a key downside risk to our forecast.

The largest downward revisions were for Canadian oil sands, where a degree of project slippage is evident. By 2015, this curbs nearly 400 kb/d from previously-forecast output, though overall oil sands production is still expected to grow strongly. Global biofuels, Azerbaijan and Brazil are all adjusted downward more minimally.

The key sources of non-OPEC supply growth remain relatively unchanged. Brazilian crude, global biofuels, Canadian oil sands, Colombia and the FSU provide incremental output, while decline is strongest in the UK, Norway and Mexico. Broken down into the different liquids streams, biofuels make for the majority of incremental output, at 37%, with NGLs and unconventional liquids providing around 20% each, and refinery processing gains 12%. Non-OPEC crude supply is now seen increasing by 255 kb/d or 11%, compared to the previously-expected 1.0 mb/d decline.

OECD

North America

US - November Alaska actual, others estimated:  Total US oil supply was revised up by 250 kb/d in 4Q10, to just over 7.9 mb/d, as this year's hurricane season passed without any further shut-ins. This year was actually the third most active on record, with 19 named storms, of which five became major hurricanes. Crucially however, despite an average 25% of storms making landfall, this year only Hurricane Alex and Tropical Storm Bonny forced the precautionary shut-in of Gulf of Mexico output in June and July (of -27 kb/d and -105 kb/d respectively), only having a negligible impact on yearly output. In combination with slightly higher production elsewhere, 2010 oil production is revised up by 55 kb/d to 7.8 mb/d.

In contrast, 2011 production levels are adjusted down by 65 kb/d to 7.7 mb/d, as US GoM drilling delays are now expected to be more protracted (see Longer Drilling Delays Seen in Gulf of Mexico). Alaskan output is also seen lower on the delayed start-up of Eni's Nikaitchuq field into 3Q11.



As a further result of the Macondo disaster, the Obama administration has now rescinded its plan to open up previously-closed offshore areas to exploration and development (see Proposals to Open Outer Continental Shelf Could Double US Crude Reserves in OMR of 13 April 2010). Only around a month before the Deepwater Horizon drilling rig exploded and sank, causing the largest-ever oil spill in US waters, the government had proposed making areas offshore Alaska, the Eastern Gulf of Mexico and large parts of the Atlantic Coast accessible to drillers. Heightened caution over drilling and a large-scale environmental study currently being undertaken may even delay a Western Gulf lease sale planned for next year. The about-face regarding the new offshore areas will however have no impact on our medium-term view of US oil production potential, because of the multi-year time lag between successful exploration and ultimately bringing onstream oil discoveries, even after companies start drilling.

In another development that could have longer-term effects on US oil (and gas) production, the state of New York voted for a moratorium of different sorts, namely on hydraulic fracturing ('fracking') on its territory. The proposal still requires the state governor to sign it into law, but would halt all activity until mid-May 2011. Fracking, which involves pumping water and chemicals into the ground at high pressure, thereby fracturing rock in order to maximise well output, has underpinned the recent surge in US domestic gas production, as well as some unconventional oil plays. There are concerns however that it leads to contamination of drinking water.

Longer Drilling Delays Seen in Gulf of Mexico

Despite the lifting of the official deepwater drilling moratorium on 12 October, no permits for wholly new wells have so far been granted by the new Bureau of Ocean Energy Management, Regulation and Enforcement (BOEMRE). With even permits for shallow-water drilling (not covered by the moratorium) having been less than forthcoming in recent months, coupled with new, tighter, regulations in place, and the new regulator apparently struggling to cope with new demands made on its time, delays to drilling are now seen to be prolonged.



Previously, our assumption that development of new deepwater fields would be delayed by 6-12 months had led us to forecast that US GoM crude production would be -60 kb/d and -100 kb/d lower than previously forecast in 2010 and 2011 respectively. We now see these delays as being more protracted - on average in a range of 12-18 months. Moreover, we now carry through these delays into our updated MTOGM forecast to 2015.

As a last point, we assume that drilling wells of all kinds will take longer in the GoM area, given more invasive safety requirements and higher costs. As such, we also assume that some slippage will occur in drilling to sustain output at existing fields. To model this, we have hiked decline rates at all post-peak GoM oil fields by 10%. In sum, drilling delays are expected to curb 300 kb/d off previously-anticipated 2015 production, broken down as follows:



It is worth emphasising however that other, offsetting, factors affect overall changes to our medium-term forecast for the GoM in particular, and US in general. The end of the hurricane season in the Gulf brings the elimination of November/December adjustments and a resulting change to forecast. Adjustments to project timings in the Gulf resulting from other factors, including baseline production levels, have affected the GoM outlook since June. Elsewhere in the US, stronger-than-expected recent growth in onshore crude production, in part related to shale oil plays, as well as NGLs and even 'other hydrocarbons', all contribute to more than offset any downward revisions to the US forecast. Indeed, contrary to widespread pessimism about a decline in output, we now see US total oil supply remaining flat at around 7.45 mb/d from 2009 to 2015.

Canada - Newfoundland October actual, others September actual:  November oil production in Canada surged by 300 kb/d to 3.5 mb/d, as mined, upgraded synthetic and Newfoundland offshore crude production bounced back from maintenance. However, estimated Canadian supply is nudged down by reported delays in ramping up bitumen output at Nexen's Long Lake facility, which for 4Q10 is partly offset by higher crude elsewhere, but for 2011 is carried through, resulting in a downward adjustment of 50 kb/d. Total Canadian supply is now estimated to average 3.3 mb/d in both 2010 and 2011.



Mexico - October actual:  Mexican oil production averaged just over 2.9 mb/d in October, unchanged from September. Details emerged on the proposed so-called 'integrated E&P contracts', which will give financial incentives to private oil companies to explore and develop resources, though will not allow production sharing with state oil company Pemex, nor the booking of any reserves. Nonetheless, the contracts, which would initially cover only a select group of mature fields, could enable access by foreign companies for the first time in over 70 years. If successful, later contracts could possibly allow access to territory in northern Mexico, the large but challenging onshore Chicontepec field, and deepwater Gulf of Mexico acreage. However, it remains to be seen how attractive the terms are.

North Sea

Norway - September actual, October provisional:  3Q10 and 4Q10 Norwegian oil supply estimates are both adjusted down by around 15 kb/d, with October-December monthly production estimated to be relatively steady at 2.2 mb/d, up from heavy maintenance in August and September. In contrast, 2011 production is revised up by nearly 50 kb/d, on higher estimated output from the newly-online Gjøa and Vega fields, which are expected to add 50 kb/d and 25 kb/d respectively of crude and condensate.



Pacific

Australia - September actual:  September oil production in Australia averaged a reduced 500 kb/d, as flooding in the Cooper Basin has hit output this year. Production in 2010 is expected to average 525 kb/d, down from 555 kb/d in 2009. The 2011 forecast is adjusted 20 kb/d lower, but nonetheless indicates a pick-up to 565 kb/d as output at the Pyrenees offshore field hits capacity and the delayed Montara field comes onstream. Results of the investigation into the Montara field accident, which suffered a fire in August 2009 and an oil leak that lasted ten weeks until the well could be plugged, have shown that the operator 'failed to observe sensible field practices'. The report also made a long list of recommendations, most of which the government supports, and will likely result in the setting-up of a national offshore regulator. Compared to the Macondo oil spill in the US Gulf of Mexico, the Montara incident caused no loss of lives and a far smaller volume of oil spilled. The field is now expected to start production in mid-2011, as compared to its planned original target of late-2008, and will have a lower peak output capacity of 35 kb/d.

Former Soviet Union (FSU)

Russia - October actual, November provisional:  Total Russian oil production was steady at 10.6 mb/d in October and November, with revisions to preliminary October data minimal. Overall, production in 2010 is estimated to average 10.5 mb/d. The 2011 forecast is nudged up by 30 kb/d and is now expected to average 10.6 mb/d. The Russian government awarded the Trebs & Titov field cluster to Bashneft, after all other bidders failed to qualify in an auction. The fields remain some of the largest undeveloped known reserves in Russia. It is thought they can potentially be brought online relatively quickly, given substantial work already undertaken and proximity to Lukoil's existing export terminal on Russia's northern coast at Varandey. However, it is unclear whether a stipulation that some 40% of the field's crude must be processed by Bashneft will allow exports via Varandey. While the company does possess significant excess refining capacity relative to crude production, its plants lie far south of Trebs & Titov in Bashkortostan in Russia's Urals-Volga region.



Azerbaijan - September actual:  Preliminary data for Azerbaijan in September indicate that oil production is some 175 kb/d higher than expected at 1.1 mb/d, in the apparent absence of anticipated seasonal maintenance. This nudges 2010 estimated average supply up marginally, to 1.07 mb/d. The 2011 forecast in contrast is adjusted down by 30 kb/d and is now only seen growing to 1.09 mb/d, with only minimal growth expected for the Azeri-Chirag-Guneshli (ACG) complex.

FSU net oil exports in October climbed by a significant 450 kb/d (4.9%) from their September level to reach 9.5 mb/d. Increased crude shipments accounted for 360 kb/d of the rise, widely reflecting a 3% decrease in the Russian crude export tariff versus September. Growing seaborne crude volumes (+440 kb/d) more than offset lower flows transported via the Druzhba pipeline (-70 kb/d). Shipments from the Baltic increased by 190 kb/d, led by the Russian flagship terminal of Primorsk where, following the conclusion of maintenance, 170 kb/d more crude oil was shipped compared to a month earlier. Far East volumes increased by 100 kb/d to 790 kb/d and are now 310 kb/d above a year ago, reflecting ESPO cargoes shipped from Kozmino. Initial port loadings suggest FSU crude seaborne shipments will slip slightly in the next two months but remain above 9 mb/d.

FSU total oil product exports rose by a marginal 80 kb/d to 2.9 mb/d, reflecting exporters increasing shipments to maximise profits in line with a 3% reduction in duties. Gasoil shipments increased by 160 kb/d, more than offsetting falls in the 'other products' category (-80 kb/d) and fuel oil (-10 kb/d). Following on from last month's reports of Russia narrowing the differential between product and crude export duties (see Russia: Redrawing the Fiscal Map in report dated 12 November 2010), Economy Minister Elvira Nabiullina recently indicated that by 2013 export duties levied on heavy and light products would be unified at 60% of the crude duty. This level was not as high as some observers were expecting and therefore will likely not increase crude exports at the expense of products to the extent expected. However, since unification would significantly raise the duty on heavy products, it could shift the balance of product exports towards the lighter end of the barrel with the intention of motivating Russian refiners to invest in more complex capacity in order to take advantage of the improved economics of exporting these products.



Other Non-OPEC

The large Jubilee oil field offshore Ghana is now officially due to start production on 17 December. With historically only minimal oil production of around 5 kb/d, Ghana is set to become one of Africa's larger sub-Saharan producers when the first phase of Jubilee ramps up to its 120 kb/d capacity by the summer of 2011. Various other additions bring total estimated Ghanaian oil production up to 175 mb/d by mid-decade, after which new Jubilee phases could take it even higher. Some think geological similarities between discoveries offshore Sierra Leone to the west and Liberia and Ivory Coast in-between point at the existence of a large new oil-bearing basin, yet to be mapped.



Oil production in Sudan is revised up by 20 kb/d in 2009 to 480 kb/d on evidence we had been undercounting some production. This and some other adjustments are carried through the forecast, thus pushing up 2010 and 2011 by around 50 kb/d each, with production expected to remain flat at around 480 kb/d (and decline thereafter). However, a referendum on independence for the southern half of the country, location of much of Sudan's oil production, set for January 2011, could yet bring turmoil, as these fields rely on pipelines through the north for exports.

Lower Baseline, But Still Strong Biofuels Growth in the Medium-Term

The global biofuels production outlook is modestly reduced since the June 2010 MTOGM. For 2009-2015, supply is revised down on average by 40 kb/d annually. Still, global growth, at 0.8 mb/d from 2009-2015, remains robust. We now see 2010 global biofuels production at 1.8 mb/d, up 260 kb/d from 2009, but 10 kb/d lower than in the MTOGM. Over the medium-term we see global output increasing to 2.4 mb/d, with annual growth from 2009-2015 averaging 140 kb/d, similar to June's forecast.

Much of the headline revision stems from lower (-25 kb/d) historical Brazilian ethanol for the series duration, as reported in the September OMR. Ethanol production there in 2010 is expected at 475 kb/d, revised down from 505 kb/d in June, with annual output rising to 695 kb/d in 2015 on the back of capacity expansions and strong gasoline demand growth. Meanwhile, with a stronger 2010 baseline, Brazilian biodiesel production has been revised 5 kb/d higher over the medium-term, with 2015 production at 60 kb/d from 40 kb/d in 2010.

US ethanol output, at 850 kb/d for 2010, has been stronger than expected. Yet, the year-end expiry of a 45 cent/gallon blenders' tax credit casts doubt over future economics. For much of 2010 ethanol without the credit was competitive versus gasoline, but corn price rises and eroding margins have threatened that position. The EPA approved E15 use for 2007 or later vehicles, and a decision on earlier models is expected in early 2011. However, increased consumption is likely to be minimal in the short-term, due to other supply chain barriers. Meanwhile, US biodiesel, with the expiry of its blenders' credit at end-2009, has seen 2010 output down by one-third versus 2009.



To be sure, the political debate over the credits remains undecided and the Renewable Fuels Standard (RFS) still provides key blending support. We have revised US ethanol production down on average by 15 kb/d from 2011-2015, though we expect output in line with the RFS, with volumes at 980 kb/d in 2015. Still, some market analysts have predicted production drops of 5-15% in 2011 should the subsidies vanish. While the cellulosic biofuel tax credit runs through 2012, lower overall investment may have a knock-on effect here as well. Near-term prospects for cellulosic biofuel in 2011 have fallen, with next year's RFS requirement at only 6.6 million gallons (< 1 kb/d), virtually unchanged from 2010 output.

In Europe, biofuels production is revised up by 5 kb/d from 2010-2015 with a higher biodiesel baseline. Ethanol output prospects have also improved, with Germany raising the blending limit for ethanol from 5% to 10%. Still, most European governments appear unready to implement, before year-end, sustainability criteria requiring biofuels to provide greenhouse gas savings of at least 35% versus fossil fuels for national targets. As such, feedstock and biofuel trade prospects remain uncertain, both within and out of the EU. All the while, Europe's 2010 biofuels output, at 240 kb/d, looks to meet just 3.1%, by energy content, of its own transport demand, versus an overall 5.75% renewable fuels target.

OECD Stocks

Summary

  • OECD industry stocks built by a modest 0.7 mb to 2 745 mb in October, contrasting with the average 6.7 mb monthly draw over the past five years. The generally flat profile saw crude builds balance out product draws in Europe and North America.
  • October OECD forward demand cover rose to 60.1 days, from 59.7 days in September. The increase was driven by higher European cover, rising by 2.6 days on weaker expected forward demand for gasoline and middle distillates.
  • Preliminary November data indicate OECD industry oil stocks fell by 8.4 mb, broadly in line with the five-year average draw of 10.9 mb. Crude oil and product inventories declined by 5.7 mb and 2.8 mb, respectively, as US draws more than offset builds in Europe and Japan.
  • Short-term oil floating storage rose to 64 mb in November, from 59 mb at end-October. Crude floating storage expanded on builds in Asia-Pacific, Northwest Europe and Latin America. Products held in floating storage remained unchanged at 27 mb in November.


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

Commercial oil stocks in the OECD regions rose slightly by 0.7 mb to 2 745 mb in October and stood 56 mb above the five-year average level. Labour action in France and refinery maintenance in the US resulted in a modest increase overall, stemming from offsetting crude builds and product draws. Over the past five years, oil inventories on average have drawn by 6.7 mb in October, as product declines outweighed rising crude oil stocks.



September inventory levels were revised down by 6.4 mb, largely on more complete data for European crude oil and US 'other products' holdings. Meanwhile, monthly US data indicate that gasoline stocks were 3.8 mb higher in September, implying a weaker monthly draw of 1.5 mb than reported last month. Downward revisions also affected September forward demand cover, which has been reassessed lower at 59.7 days. October OECD forward cover rose to 60.1 days, driven by higher European cover, up by 2.6 days on weaker forward demand for gasoline and middle distillates.



Total OECD middle distillate stocks stood at 582 mb in October, with a 35 mb surplus to the five-year average. Ahead of winter, North America and Europe seem to be well supplied, with distillate stocks 20.8 mb and 23.8 mb above five-year averages, respectively, and only the Pacific maintaining a 9.4 mb deficit in October. In addition, middle distillates held in floating storage near Northwest Europe and the Mediterranean also provide some cushion.

Overall, offshore storage of products at sea remained unchanged at 27 mb in November, as a build-up near West Africa compensated for a further offloading in the Mediterranean. Crude floating storage expanded by 5.5 mb in Northwest Europe, Asia-Pacific and Latin America, reaching 38 mb globally, and brought total short-term oil floating storage to 64 mb in November, up from 59 mb in October. Onshore OECD industry oil stocks fell by 8.4 mb in November, as crude inventories dropped by 5.7 mb and product stocks contracted by 2.8 mb.

Analysis of Recent OECD Industry Stock Changes

OECD North America

Industry oil stocks in North America fell by 14.9 mb to 1 381 mb in October, vastly exceeding the 2.1 mb five-year average stock-draw. Middle distillate stocks fell by 10.3 mb and gasoline dropped by 8.3 mb. This second consecutive monthly decline, led by gasoline and distillates, helped to draw down some of the regional excess build-up over recent months. Total regional product holdings fell by 22.6 mb, while crude inventories rose by 6.5 mb.



According to preliminary weekly data from the US Energy Information Administration (EIA), US industry stocks drew by 20.9 mb in November. Crude oil inventories fell by 9.7 mb as a result of lower imports and products fell by 11.2 mb. Middle distillates shrunk by 4.2 mb with ultra-low-sulphur diesel accounting for more than 80% of the decrease, while gasoline inventories gained 0.6 mb. US producers almost doubled their gasoline exports to Latin America this year, and in doing so helped to reduce the stock overhang created by weak 2009 demand. Gasoline stocks re-converged on seasonal average levels following a disconnect over the recent months.



The US EIA published for the first time its semi-annual report of US liquid fuel storage capacity. It clarified net available shell storage capacity in Cushing, Oklahoma, estimated at 54.975 mb as of 30 September 2010, of which 45.882 mb (83.5%) are considered working capacity. The EIA assessment of Cushing capacity is higher than previously estimated by others. Uncertainty about the actual levels of operable storage capacity at Cushing distorted the market outlook in July, when traders feared rising stocks would soon reach maximum operational levels. In the light of new data from the EIA, the stocks in Cushing reached 37.8 mb, or 82.4%, at their highest levels in July, while November stocks rose by 1.7 mb to 34.8 mb, or 75.8% of working storage capacity.

OECD Europe

Industry oil inventories in Europe rose by 10.9 mb to 956 mb in October. Monthly stock-build, deriving in part from French port and refinery strikes (see Accounting for French October Strikes below), contrasted with a more normal 7.0 mb seasonal decline led by product draws. This year, products declined by 3.0 mb, more in line with the 6.1 mb five-year average draw, partly balancing a sizeable 15.3 mb gain in crude oil inventories. Inventories of 'other oils' dropped by 1.3 mb in October, largely driven by France, but these stocks have fallen by 10.0 mb since March 2010. Gasoline holdings fell by 1.0 mb, fuel oil stocks decreased by 1.3 mb, but middle distillate stocks built by a modest 0.3 mb, originating in France. In Germany, end-user heating oil stocks increased from 62% to 63% of capacity in October.



Accounting for French October Strikes

Preliminary data indicate that commercial oil inventories in France were 3.0 mb lower at the end of October from month earlier. During the month, the country experienced serious logistical disruptions caused by port and storage depot blockades in protest against pension reforms and port restructuring. French authorities responded to the disruption by permitting regional stock swaps, allowing the use of emergency stocks to alleviate shortages in affected regions and to compensate with commercial operational stocks held elsewhere in the country. In addition, on 15 October, the French authorities permitted companies to use approximately 14 mb of the some 40 mb of stocks they normally hold to meet emergency stockholding requirements. Later, as regional swap opportunities dried up, loans of government strategic stocks were also authorized, including an 8 mb loan consisting mainly of middle distillates.

As a result of this flexible policy, government-controlled inventories edged 2.8 mb lower at end-October, with crude oil and gasoline stocks up by 5.7 mb and 0.5 mb, respectively, while middle distillates contracted by 8.9 mb. Crude oil industry stocks edged 0.7 mb lower and gasoline and 'other products' dropped by 1.1 mb each. Industry distillate stocks rose by 1.6 mb, aided by the use of government-controlled stocks following diesel shortages at filling stations and to facilitate end-user pre-winter restocking.

To relieve the build-up of vessels near French ports, some ships, originally destined for France, were transferred to neighbouring countries, including Spain, Portugal, the UK and the Netherlands, and as a result, October crude holdings in European countries surged counter-seasonally by 15.3 mb. When the strike ended on 29 October, a large backlog of tankers still awaited offloading near the port of Fos-sur-Mer/Lavera in Southern France.

Preliminary data from Euroilstock indicate that oil industry inventories in the EU-15 plus Norway rose by 7.2 mb in November, in line with the 7.6 mb stock-build over the past five years. Crude oil holdings edged 0.4 mb higher, while products built by 6.9 mb. Middle distillate stocks surged by 3.9 mb, while gasoline and naphtha also increased. Meanwhile, refined oil products held in independent storage in Northwest Europe remained virtually unchanged in November, as large draws in gasoline and fuel oil were balanced by strong gasoil builds, despite colder temperatures towards the end of the month.

OECD Pacific

Commercial oil inventories in the OECD Pacific rose by 4.6 mb to 407 mb in October. By comparison, October over the past five years has normally seen builds averaging 2.4 mb. The stockbuild narrowed the deficit to the previous year's levels but inventories still stood 30 mb below the five-year average. A sharp increase in 'other products' (+4.3 mb) drove the monthly stock-build that followed a stronger weather-related September draw. But increases in gasoline and distillates also contributed, while fuel oil inventories dropped by 1.8 mb. Crude oil holdings fell by 1.8 mb, led by a decline in Korea.



Japanese oil industry stocks rose by 5.2 mb in November, according to preliminary weekly data from the Petroleum Association of Japan (PAJ). Crude oil stocks built by 3.7 mb. Meanwhile, product inventories edged higher by 1.5 mb, driven by increases in gasoline and naphtha holdings, but a decline in middle distillates provided some offset.



Recent Developments in China and Singapore Stocks

According to China Oil, Gas & Petrochemicals (China OGP), Chinese commercial oil inventories drew by 12.8 mb in October. Crude stocks fell by a further 3.4% (7.3 mb) on the month, driven by higher refinery runs and a drop in imports from September record highs (oddly, crude stocks have risen or fallen exactly by 3.4% over the past three months). Surging demand curtailed gasoil stocks by 5.6 mb in October and levels have fallen by more than 45% since February 2010. This happened despite a drop in gasoil exports, rising imports and maximized crude runs in an attempt to keep the market supplied. Meanwhile, kerosene stocks contracted by 0.8 mb and gasoline rose by an offsetting 0.8 mb.



Refined product inventories in Singapore rose by 3.4 mb in November, driven by higher fuel oil and gasoil inflows. Recent cargo arrivals raised fuel oil stocks by 2.0 mb, while higher gasoil exports, mainly from Japan and Korea, added 1.3 mb to gasoil tanks. Chinese companies imported several cargoes from Singapore and China reportedly became a net gasoil importer for the first time since November 2008.



Prices

Summary

  • The early onset of frigid winter weather coming on the heels of exceptionally strong 3Q10 global demand growth combined to push prices to trading peaks of around $90-92/bbl by early December. Much of the blame for rising prices since the summer had been placed on financial and commodity markets, but it now looks clearer that fundamentals in fact continued to provide a firm underpinning. At writing, benchmark crudes were trading around $88-$91/bbl.
  • Gasoil prices surged as temperatures plummeted in early December, but November spot product price increases were largely eclipsed by surging crude prices in Europe. Meanwhile crack spreads and refining margins in the US and Singapore only managed to post modest improvements on average for the month. Surging Chinese demand for middle distillates for electricity and agricultural needs, however, boosted gasoil in the region.
  • Low temperatures also proved the impetus for futures contracts to shift slightly from the contango price structure prevailing for the past two years into backwardation in early December. As prices moved above $90/bbl, producing companies also stepped in to hedge long-term production, helping to push further out futures contracts below the front month.
  • Regulators moved apace with writing new rules to implement reform packages for over-the-counter (OTC) derivatives in the US and Europe, although market participants have raised a number of concerns over the rule making process. Monitoring an inherently dynamic industry is a complex and difficult task and regulators themselves have expressed uncertainty over what the new regulations will bring to the market.
  • Both crude and product freight rates experienced a resurgence in November, helped by weather delays in the Bosporus Straits, the anticipation of ice-class requirements in the Baltic, increasing imports into China and Japan and arbitrage opportunities for shipping gasoline into the US East Coast.


Market Overview

The early onset of frigid winter weather in much of the northern hemisphere following exceptionally strong third-quarter global demand growth combined to push prices to trading peaks of around $90-92/bbl in early December. While financial and commodity markets were singled out as the main drivers for rising prices since the summer, it now looks clearer that fundamentals in fact continued to provide a firm underpinning. Benchmark crudes in November rose by around $2.35-$2.60/bbl, with WTI averaging $84.31/bbl and Brent $86.15/bbbl. By the week ending 3 December, futures prices had posted further gains of around $2.50/bbl. At writing, benchmark crudes were trading around $88-$91/bbl.

In November, oil prices posted their own U-shaped recovery, as market worries over the Eurozone crisis, expectations that China will tighten its monetary policy and release of various bearish economic data from the US pressurised prices mid-month. Prices later rebounded on reports of further monetary easing in the US, a weaker dollar and the sudden emergence of blustering cold weather in Europe and the US. Indeed, WTI settled on 17 November at a monthly low of $80.44/bbl before scaling new two-year heights on 3 December, to $89.19/bbl. Brent posted similar gains over the same period, rising by more than $8/bbl, from a November low of $83.28/bbl to a high of $91.42/bbl by 3 December. WTI continued to trade at a discount to Brent in November and, for the first time in more than two years, Brent futures moved into slight backwardation on 6 December, underscoring the strength of prompt fundamentals.

Near-term, price strength could persist in the coming weeks based on forecasts for continued cold temperatures. Oil demand growth has also been revised higher for 4Q10 and 2011 but overall will ease from the exceptionally strong growth rates posted in 3Q10. Demand has been surprisingly strong in the US, China and other Asia.

Despite the unprecedented market move to the upside in recent weeks, some analysts are convinced that neither oil supply and demand fundamentals nor economic activity justify sharply higher prices. While global inventories have slimmed down, OECD stocks are still well above the five-year average. In the US, refiners may opt to draw down stocks as companies try to minimise their end-year tax liability. The current winter weather may help shave inventories by year-end, but it would take a very protracted cold spell to trigger a significant draw in stocks. Non-OECD demand indicators also appear to be easing, especially from China, where expectations of a more constrained monetary policy are expected to temper oil demand growth. Near-term, our latest Chinese demand forecast sees the strong surge in gasoil use, which has ramped up smartly to offset government-mandated shut-in of coal-fired power plants and on the back of robust agricultural demand, continuing in 1Q11 but easing thereafter.



Futures Markets

The flatter forward price curve that has emerged in recent months finally flipped Brent futures into slight backwardation in early December. Brent futures reached this point on 6 December —the first time the contract has traded in backwardation in more than two years. Along the forward Brent curve, prices declined by around $0.50-$1.00/bbl, at the same time the prompt month jumped on cold weather-related buying.  WTI futures contracts also moved into backwardation but from mid-2011 onward. The contango price structure had emerged in the wake of the global economic and financial market meltdown in 2H08. Indeed, ever since, the forward price curve has tended to strengthen on expectations of stronger oil demand just over the horizon.



However, whether backwardation becomes firmly re-established will depend partly on the duration of the weather-related demand strength as well as moves by companies to sell into the forward curve to hedge their future production. Reports of a wide swathe of producers taking advantage of oil prices above $90/bbl to hedge future production has not yet been captured in reported CFTC data.

Latest CFTC data show open interest in WTI contracts declined in November in both futures-only and futures and futures-equivalent options (hereafter combined) to 1.342 million and 2.389 million contracts, respectively. Producers decreased their net long position during the month of November; they held 25.5% of the short and 15.3% of the long contracts in WTI futures-only contracts. Swap dealers, who accounted for 29.8% and 32.5% of the open interest on the long side and short side, respectively, switched to a net short position after reducing their net long position by 56 000 contracts from last month's net long position of 20 000 futures contracts.



Managed money traders' net long exposure declined by close to 17% in November, to 152 000 futures contracts.  In line with the decline in their position, the market share of managed money traders has fallen from 30.2% to 28.2% on the long side and from 17.8% to 16.9% on the short side. Other non-commercials, who accounted for 20% of open interest on both long and short sides, remained net short in the market, although they reduced their net short position significantly. 

Open interest declined in the NYMEX RBOB futures and combined markets. Producers continued to hold the largest long and short positions in the market, controlling 73.2% and 33.2% of open interest on the short side and long side, respectively. Swap dealers, managed money traders, and other reportables as well as non-reportables continue to provide liquidity in the market by holding respectively 18.9%, 33.3%, 7.3% and 7.3% of open interest on the long side. In November, open interest in NYMEX heating oil and natural gas markets declined,  respectively, by 5.8% to 300 900 contracts and 5% to 758 700 contracts.

Meanwhile, final data for October show the influx of commodity index money in futures and over-the-counter (OTC) markets increased for the month in the long side to a notional value of $254.7 billion while decreasing to $187.4 billion in net notional value. Index investors withdrew US$0.4 billion from the WTI futures market in October 2010, which fell to 629 000 futures equivalent contracts.



Regulatory Overhaul in the Over-the-Counter Market

The onset of the financial crisis from the autumn of 2008 triggered frantic efforts by policymakers around the globe to tighten regulations in order to reduce systemic risk and increase transparency in the market place. This was especially the case for over-the-counter (OTC) markets, where a wide range of instruments are traded, including commodities. Instruments in the OTC markets are generally privately negotiated between market makers (or so called swap dealers) and their clients. Unlike standardised exchange traded products, OTC instruments can be customised to fit clients' needs. These instruments can be used to hedge exposure to the physical asset itself, or to make speculative profits if prices of the underlying asset move in an expected direction. According to the latest Bank of International Settlements (BIS) survey, the total notional value of all OTC derivatives reached $583 trillion at end-June 2010, of which $2.85 trillion (0.5%) was in commodity-related derivatives. At their peak in end-June 2008, the total notional value of commodity-related derivatives had reached $13 trillion, or 2% of the total market.

Because it primarily deals with privately-negotiated contracts, the OTC derivatives market is essentially opaque, in the sense that information is typically available only to the negotiating parties. Some argue that the lack of public information in the market prevents an appropriate assessment of overall risks by market participants and precludes them from taking the necessary measures against default risks. The financial crisis has brought the OTC derivatives market to the forefront of the regulatory debate and has highlighted the importance of international coordination.

In 2009, the G20 declared the need for more robust supervision and regulation of the international financial system, including international regulatory standards. According to the statement of the G20 leaders following their meeting in Pittsburgh in September 2009: "All standardised OTC derivatives contracts should be traded on exchanges or electronic trading platforms, where appropriate, and cleared through central counterparties by end-2012 at the latest. OTC derivative contracts should be reported to trade repositories. Non-centrally cleared contracts should be subject to higher capital requirements."

Following the G20 agreement, the US financial reform package, known as the Dodd-Frank Wall Street Reform and Consumer Protection Act (Dodd-Frank Act), became law on 21 July 2010. Shortly thereafter, on 15 September 2010, the European Union also unveiled its proposal for regulation of OTC derivatives, central counterparties and trade repositories. The main goal is to increase transparency and efficiency of the OTC derivatives markets and to reduce potential counterparty and systemic risks through:

  • Comprehensive regulation of swap dealers and major swap participants to minimise systemic risk, via registration, capital and margin requirements and standards of conduct;
  • Standardising as many swaps as possible;
  • Clearing requirements for standardised swaps through an intermediary company with sufficient capital, such as clearing houses, or central counterparties (CCPs) to eliminate counterparty risk. Mandatory clearing requirements will not apply to existing swaps; however they still need to be reported to swap data repositories or directly to regulators;
  • Trading standardised swaps on designated contract organisations or swap execution facilities, where multiple traders can place bids and offers;
  • Real time reporting for cleared and uncleared swaps to centralised swap data repositories;
  • Exempting end-users using swaps to hedge or mitigate commercial risk from mandatory clearing; and
  • Imposing aggregate position limits and large trader reporting requirements for swaps.

Although the US and European reform packages entail very similar regulatory frameworks, there are several differences between the two. First, the European proposal does not make any reference to the extent of the mandatory exchange trading for standardised swaps. Therefore, financial entities and non-financial entities, which exceed the information threshold level, will have the obligation to report to a trade repository no later than one working day after the trade. Additionally, non-financial entities whose trade size is below the information threshold level are not required to report their transactions. In contrast to the European retroactive reporting requirement, the US CFTC proposed real time reporting (as soon as technologically practical) for both on-exchange and off-exchange swap transactions, including a provision for a 15-minute delay for block trades. Second, the European proposal does not have components such as the Volcker Rule, which in the US will prohibit banks from proprietary trading.  Third, the European proposal does not set a cap on ownership of clearinghouses, which in the US is set at 40% of clearinghouse ownership by financial institutions. Finally, the European proposal does not have position limits in their regulation but these are expected to be included later. The US CFTC is expected to announce its position limits for energy futures and swaps on 16 December 2010.

Regulating an inherently dynamic industry is a complex and difficult task. Regulators themselves express uncertainty over what the new rules will bring to the market. Market participants have already raised concerns over some of the issues in the rulemaking process. Their main concerns are:

  • Swaps are not futures: They argue that the OTC market is different from the futures markets and therefore should not be regulated in an identical fashion.
  • Standardisation and exchange trading: Swaps can trade infrequently, often in significant sizes, between dealers and end-users or speculators. If trading activity in the futures markets is any evidence, a relatively very small number of highly liquid instruments have been effectively traded on the exchange. The failure rate of exchange trading models especially in less liquid instruments has been very high.
  • Low liquidity: Liquidity in OTC markets is generally provided by the dealers, who use their own capital to make the markets. Market participants contend that the Volcker rule has the potential to change the structure of the market by lowering liquidity. Notwithstanding the potential for diminished risk to lead to lower interest rates, if liquidity were to decline due to margin requirements, clearing costs or any other clause in the regulation, the process of price discovery and the risk transfer function of these markets would be significantly compromised.
  • Increase in end-user costs: There are end-user complaints about costs possibly increasing due to the fact that the counterparty might transfer some of the clearing costs to end-users, in addition to uncertain margin requirements. As one regulator noted, if the regulatory framework replaces a system of 'too big to fail' with a system of 'too costly to clear', market efficiency is hardly likely to be improved. The debate continues.

Spot Crude Oil Prices

Spot crude prices rose in tandem with stronger refiner demand in November and strengthened further on the back of early-December cold weather. Distillate-rich crudes such as Nigerian grades were also bolstered by winter-related demand for heating oil and strong Chinese demand for diesel.



In November, spot prices for benchmark grades were up on average by 2.8% to 4.3%. Strong Asian demand for heavier Mideast crudes saw Dubai spot prices up by $3.44/bbl to $83.65/bbl in November, Dated Brent up by a smaller $2.58/bbl to an average $85.33/bbl while US WTI posted the smallest month-on-month increase at $2.31/bbl to $84.20/bbl.

Spot crude markets in Asia were relatively stronger than other major regions, in part due to higher seasonal demand but also to brisk spot purchases by China. Prices for distillate-rich crudes as well as other Mideast heavy crudes were supported further in early December after Saudi Aramco raised its prices for all grades to Asia amid a cutback of sales of its Arab Heavy crude.



Stronger demand for light sour crudes also supported increased spot prices for Russian ESPO crude. ESPO Blend's premium above Dubai crude has gone from strength to strength over the past six months and posted another record in early December, trading around $2.50/bbl compared to an average $1.89/bbl in November, $1.05/bbl in October, $0.64/bbl in September and $0.19/bbl in August.

Spot Product Prices

Gasoil prices surged with the onset of colder weather in the Northern Hemisphere but were still largely  eclipsed by relatively stronger crude prices. As a result, crack spreads declined in Europe and only managed to post modest improvements on average in the US and Singapore for the month. Indeed, despite the colder weather, stubbornly high inventories are keeping a cap on European and US spot gasoil prices.



US gasoline cracks, especially for premium grades in New York, remained counter-seasonally robust, in part reflecting reduced refinery yields as refiners increased their heating oil output. The crack spread for unleaded gasoline in New York rose to $9.52/bbl in November compared with an average of $8.18/bbl in October. Cracks for premium grades were nearly double those levels, averaging $16.70/bbl in November compared to $13.57/bbl in October.

In Asia, crack spreads were mixed, with light ends and middle distillates improving month-on-month while fuel oil weakened further in November.  China's surging demand for diesel and gasoil is also lending considerable support to regional middle distillate markets. Chinese government mandates to meet emissions reductions and energy efficiency targets by the year-ended in February have seen a surge in diesel and gasoil demand at the expense of coal. As part of the conservation efforts, power rationing has forced companies to burn diesel in their own generating sets.

Meanwhile, naphtha cracks in Asia continued to improve in November on the back of strong petrochemical demand in line with stronger economic activity. In Singapore, naphtha cracks rose to $3.61/bbl in November compared to $2.75/bbl in October and a loss of $0.60/bbl in September.



Refining Margins

Refinery margins fell slightly on average in all regions in November. In general, volatility was high with margins dropping at the beginning of the month before strengthening again. While margins in Northwest Europe, US West Coast and Singapore were more or less unchanged versus last month, Mediterranean and US Gulf coast margins dropped by around $1/bbl.





In Northwest Europe, November margins were nearly unchanged against October. Margins declined at the start of the month as the strike at the French refineries came to an end in late October, taking the pressure off products. However, they moved higher throughout November as especially middle distillates cracks improved due to increased weather-related heating oil demand. Gasoline crack spreads also improved, partly due to high import demand from Nigeria.  In the Mediterranean though, margins fell on average as the Urals discount was lower than usual due to tight supply.

On the US Gulf, November cracking margins fell by around $1/bbl, whereas coking margins moved sideways. The large drop in margins in the beginning of the month was a result of products cracks, especially gasoline, increasing at a slower pace than crude feedstocks. Coking margins fared generally better as Mars and Maya crudes were trading at larger discounts in November. Generally, throughout the month margins were lifted by stronger gasoline and middle distillates cracks as supplies tightened with falling US stock levels for both products.

In the US West Coast, cracking margins based on domestic crudes moved sideways, but the Oman cracking margin fell almost $3/bbl. The Kern coking margin also dropped, by around $2/bbl. Oman was trading at a lower discount than usual, as strong demand from, among others, China pushed Middle East crude prices higher in November. Coking margins by contrast were depressed due to a weak gasoline crack in the first part of the month.

In Singapore, margins were roughly unchanged on average in November. Dubai hydroskimming margins decreased by around $0.50/bbl as fuel oil cracks improved less than gasoline and middle distillates cracks throughout the month. Also Chinese margins were broadly unchanged, following the same monthly pattern, with margins dropping at the start of the month before strengthening on the back of higher gasoline and middle distillates cracks.

End-User Product Prices in November

In November, IEA end-user prices rose by 1.19% in US dollars, ex-tax. On the same basis, average IEA prices rose for gasoline (+2.13%) and diesel (+2.59%), while heating oil (+0.28%) and low-sulphur fuel oil (-0.22%) stayed at similar levels as the previous month. Compared to a year ago, average IEA-region prices were 8.6% higher. In Europe, the largest average price changes were observed in the UK (+3.67%) and Germany (+1.87%). On the other side of the Atlantic, data indicate average price increases over the previous month in Canada (+3.98%) and the US (3.75%). In Japan gasoline prices decreased by 0.91% and diesel increased marginally by 0.29%.

Gasoline and diesel price increases were nonetheless slower than in October. IEA end-user diesel prices observed a 7.0% and 2.59% increase, respectively, over the last two months showing pressure from a tighter market, due to higher than expected demand increases in China. Interestingly the Northern Hemisphere winter products, heating oil and low-sulphur fuel oil observed little change in most countries during November with the exception of Canada and the UK, where end-user heating oil prices gained 2.06% and 1.63% respectively.

Freight

Benchmark dirty tanker rates maintained their recovery in November. Suezmax rates fared extremely well after weather-related delays in the Bosporus Straits tied up vessels in the Mediterranean, which had knock-on effects elsewhere. The benchmark West Africa - US Atlantic coast rate rose steadily from $10/mt to over $18/mt by month-end. In comparison, rates on the benchmark VLCC Mideast Gulf - Japan route were volatile, initially surging to over $15/mt by early-November on the back of increased Chinese demand, but then fading on low enquiries following the Eid-al-Adha holiday. By month-end, VLCC rates had fallen back to end-October levels. In the Aframax market, the aforementioned Bosporus delays buttressed rates mid-month in the Mediterranean and North West Europe. While in early December, rates soared on the North Sea - Northwest Europe trade after the market anticipated tight ice-class vessel availability with the onset of ice in the Baltic.

Product tankers experienced a similar resurgence in November as all benchmark rates strengthened over the course of the month with the typically volatile East of Suez and transatlantic trades experiencing the sharpest climbs. Rates on the benchmark Arabian Gulf - Japan route increased steadily from $17/mt to almost $25/mt by early December, reflecting increased shipments of gas/diesel oil into China and naphtha into Japan. The transatlantic North Sea - US Atlantic coast route surged from $14/mt in mid-month to $25/mt by early-December after an arbitrage window opened to send gasoline into PADD 1 with Atlantic basin tonnage consequently tightening.



Floating storage of crude and products experienced a slight rise of 5.8 mb to stand at 64.4 mb at end-November. This build was led by a 5.5 mb rise in crude to 37.6 mb, while products increased by 0.3 mb to 26.8 mb. On a regional basis, one ULCC began storing 3.1 mb of crude off Brazil and 2.2 mb was stored off Northwest Europe, with neither area having previously accounted for substantial crude floating storage. Data suggest that Iranian storage fell by 1.9 mb to 21.7 mb. Products held off West Africa increased to 10.9 mb (+3.2 mb), offsetting falls in the Mediterranean (-2.8 mb) and Northwest Europe (-0.1 mb). Following the increase in oil held at sea, the storage fleet expanded to 50 vessels, comprising 18 ULCC/VLCCs, 1 Suezmax, 28 LR2/Aframaxes and 3 LR1/Panamaxes.

Refining

Summary

  • 3Q10 global crude throughputs have been revised lower by 90 kb/d since last month's report, on slightly weaker than expected runs in Brazil and Taiwan in September. At an average of 75.6 mb/d, 3Q10 global crude runs were nevertheless more than 2.0 mb/d higher than a year earlier, with gains evenly split between the OECD and the non-OECD.
  • Global crude runs are set to fall sharply in 4Q10, in line with seasonal trends, but amplified by strikes in France in October and an expected slowdown in global demand growth. Global throughputs are estimated at 73.8 mb/d, 1.8 mb/d less than 3Q10, but still a healthy 1.3 mb/d above a year ago.
  • OECD refinery crude runs fell by 2.3 mb/d in October, to average only 34.6 mb/d, or 45 kb/d below our previous forecast. Peak seasonal maintenance in the Pacific and North America coincided with industrial action in France, to take regional runs to their lowest level since June 1993. Weekly data point to a partial rebound in November, though constrained due to weak margins.
  • Despite a few more refinery closures in the OECD and a continued bleak outlook for the refining industry, global crude distillation capacity additions are now seen at 9.2 mb/d by 2015, or 200 kb/d higher than in the June 2010 MTOGM. While significant surplus capacity persists, a higher demand profile and lower NGL supplies bypassing the refining system provide a slightly improved outlook for refiners in the medium term.


Global Refinery Throughput

Global refinery throughputs have been revised lower by about 100 kb/d for both 3Q10 and 4Q10 following weaker-than-expected non-OECD runs in September and October. In September, continued problems at Taiwan's 540 kb/d Formosa refinery following a fire in August seem to have lingered on, while Brazilian runs were lower on prolonged maintenance. In October, lower Russian and Indian runs, also due to maintenance, dragged down total levels, already depressed by French strikes. At 75.6 mb/d and 73.8 mb/d for 3Q10 and 4Q10, respectively, global crude runs are nevertheless showing significant annual growth. While 3Q10 was more than 2 mb/d higher than the same period a year earlier, and with gains evenly split between the OECD and the non-OECD, growth is expected to slow somewhat in 4Q10, to 1.3 mb/d. October OECD data were already exceptionally weak, both on a monthly and annual comparison, in part due to unplanned outages. While OECD runs have already partly recovered from October lows, and could be further boosted by freezing temperatures, 4Q10 annual OECD growth is seen slowing to just over 0.3 mb/d. The non-OECD, led by China, however, continued to post record runs in October sustained by high demand for diesel, and 4Q10 non-OECD runs are expected to retain 1 mb/d annual growth and reach 38.2 mb/d in the last quarter of the year, slightly higher than in 3Q10.



Medium-Term Update: Refinery Closures Fail to Dent Global Capacity Additions

Despite a few more refinery closures in the OECD since our June MTOGM, and a continued bleak outlook for the refining industry, global crude distillation capacity additions are revised slightly up for the forecast period. Total crude additions are now seen at 9.2 mb/d from 2009-2015, or 200 kb/d higher than our previous report. Global upgrading and desulphurisation additions are also significant, at 7.3 mb/d and 8.0 mb/d, respectively. While significant surplus capacity persists, a higher demand profile and lower NGL supplies bypassing the refining system provide a slightly improved outlook for refiners in the medium term.

Since our June report, a further 640 kb/d of capacity has been announced shut, mostly in the OECD. Total refinery closures now amount to 2.0 mb/d since 1Q2009, including Valero's Aruba refinery but excluding the Delaware (US) plant, which is set to restart in 2011. Since the last update, we have included the closure of Western Refining's 70 kb/d Yorktown (US) in 3Q10, Flying J's 70 kb/d Bakersfield (US) (2Q10), Tamoil's 94 kb/d Cremona (I) (2Q11), Petroplus' 80 kb/d Reichstett (Fr) from 1Q11 and an already idled 52 kb/d CDU at Fuji Oil's Sodegaura (J). Outside of the OECD, the planned closure of the 200 kb/d Kaohsiung refinery in Taiwan (4Q2015) has been incorporated in this assessment. State-run CPC Corp. pledged to close it by 2015 in exchange for local residents allowing the company to build an ethylene plant on the site and started decommissioning five units on 1 September of this year.



OECD crude distillation capacity is nevertheless expected to increase overall in the 6-year period. In addition to expansions already included (for Poland, Spain and Greece), a new grassroots project in Turkey has been included since the last report. The 200 kb/d Aliaga JV refinery between Turcas and Socar was finally approved and construction is due to start in 2011. It will be integrated with an existing petrochemical plant, and is slated to process Azeri BTC blend and is scheduled for completion in 2014/2015.

Globally, growth in refinery distillation capacity remains dominated by China, which alone accounts for 38% of additions in the six-year period, but significant uncertainty remains. As before, we highlight the difficulty in tracking projects and their status, but assume that Beijing will aim to approve enough projects to remain self-sufficient in light product demand. Beijing's concern about oversupply means that regulators may delay approving new projects, however, and we have slipped a few projects as some approvals are still pending.

Yet many projects are moving ahead and China's Ministry of Environmental Protection (MEP) approved a further two involving foreign investors in September; the 300 kb/d Sinopec/KPC refinery in Zhanjiang and CNOOC's 200 kb/d expansion of its Huizhou refinery. While Huizhou is not expected to be completed until 2016 or later, we expect the Zhanjiang plant to be brought on line in 2015, one year later than in our last report. CNPC began levelling ground in the south-western Yunnan province in October and we have subsequently included the proposed 200 kb/d Anning refinery as likely for completion in 2014. The $3.4 billion project plans to source its feedstock from the new pipeline from Myanmar, scheduled for completion in 2013. Construction also started at the CNPC/Rosneft refinery in Tianjin in September. The refinery will receive 70% of its feedstock from Russia, via the ESPO pipeline and the rest from Middle Eastern countries.  Although PetroChina does not yet have final approval for its 400 kb/d Jieyang refinery, a joint venture with Venezuela's PDV, the National Development and Reform Commission (NDRC) has given preliminary approval, and we continue to include the project in our capacity list (though now only assumed completed in 2015). Sinopec has reportedly dropped Caofeidian from its list of planned refineries in its next five-year plan. The company says another refinery would swamp regional markets so we have taken it out of our list (2015).

We have also made several changes to our estimates for Other Asia. Following a detailed project review, India's Essar is planning to augment distillation capacity by 80 kb/d at its Vadinar refinery by 2011, and a further 40 kb/d in 2012 through debottlenecking and by optimising certain units. Indian Oil Corp completed its 60 kb/d expansion of its Panipat refinery in September, while Bharat Petroleum's new $2.5 billion Bina refinery started full commercial operations also in September (we expected it in 1Q11). BPCL's 40 kb/d expansion of the Kochi refinery was successfully completed in August 2010 and HPCL/Mittal's Bathinda grassroots refinery is on track to start processing from April 2011.

The completion of Vietnam's second refinery, the proposed 80 kb/d Nghi Son plant, has officially been delayed from 2013 to 2014, but in line with our previous assumptions. State-owned PetroVietnam and Japanese Idemistu Kosan expect to award EPC (Engineering, Procurement and Construction) this month, three months later than originally planned. Although the country's third proposed refinery, the Vung Ro refinery in Phu Yen, seems to be progressing, we have shifted likely completion date from 2015 to 2016 or later.

Elsewhere, although substantial changes are minimal, adjustments have been made to some likely completion dates. For instance, we only expected Tatneft's new Nizhnekamsk refinery, which was launched on 26 October, to start operations in 2012. The 140 kb/d refinery is the first large-scale refinery built since the dissolution of the Soviet Union and will be a 15 on the Nelson Complexity Index. Rosneft announced in November that its Board of Directors had approved the plan to build a 200 kb/d refinery as well as a petrochemical plant in Nakhodka, close to Kozmino, the end point of the second stage of the ESPO pipeline currently being built. The refinery is currently only slated for completion in 2017 however. The company also announced it is planning a 20 kb/d refinery in Grosny, in the Chechen Republic.

In Latin America, progress on Brazil's impressive expansion projects seems to be in line with plans. We expect Brazil to add 0.8 mb/d by 2015, through the completion of the first phase of Comperj (165 kb/d in 2014), Abreu e Lima (230 kb/d in 2013) and the first phase of Maranhao in the northeast (300 kb/d in 2015). In Cuba, a unit of China's CNPC is set to begin a $6 billion expansion project at the Cienfuegos refinery, expanding capacity from 65 kb/d to 150 kb/d and including an LNG terminal. The construction will start in 2011 and completion is expected by the end of 2013. Despite some progress made on projects in Nigeria, Indonesia, Iraq and Mongolia, we continue to exclude these projects until more firm details materialise.

OECD Refinery Throughput

October OECD crude throughputs were sharply lower than a month earlier, as peak maintenance, poor margins and industrial action in France coincided to drag OECD runs to their lowest level since June 1993. At 34.6 mb/d, total OECD crude runs were an impressive 2.3 mb/d below September, and 3.2 mb/d below August's peak. Runs were lower in all regions, and only the Pacific maintained utilisation rates above a year earlier. North American throughputs fell sharply, on heavy maintenance outages and poor margins. Japanese autumn turnarounds equally peaked in October, though runs were sustained above year-ago, in part supported by strong export demand for diesel. In Europe, a complete halt to France's refining industry severely curtailed regional runs, and latest data suggests that refiners outside of France did not materially boost runs to fill the supply gap, but rather drew stocks instead.

OECD runs are expected to recover in November and December as refiners exit turnarounds and replenish stocks ahead of peak winter demand. Europe is already seeing very cold temperatures so far this year supporting gasoil demand, while the Pacific continues to export diesel to China and neighbouring countries. Weekly data for the US, Canada and Japan show throughputs recovering from the seasonal low by mid-November.



Processing Gains Update

Since the last MTOGM we have revisited our refinery Processing Gains estimates for the 2009-2015 period. Processing gains are the volumetric amount by which total refinery output exceeds input for a given period of time. This difference is due to the processing of crude oil and feedstocks into products, which, in total, have a lower specific gravity due to cracking and other upgrading processes. Processing gains are thus counted as supply in our global oil market balances (Table 1).

Normally, processing gains fall out from each run of the global/regional products supply model.  Since the December update looks at capacity only, and therefore does not systematically re-calculate processing gains by region, we have recalculated based on expected changes in oil demand and investments in cracking capacity over the forecast period. Taking 2008 processing gains as a base, we have applied a composite index of the changes to global demand and the upgrading ratio, or all cracking capacity over total crude distillation capacity (in FCC equivalents), for subsequent years. Although this is a simplification, it does capture the key drivers of processing gains

In all, we have raised 2010 global processing gains by 105 kb/d, and increased the 2015 total by 195 kb/d. Processing gains now average 2.25 mb/d and 2.51 mb/d 2009 and 2015, respectively. A more comprehensive review of processing gains will be undertaken ahead of the June 2011 MTOGM.



North American refinery runs were even lower than preliminary data had indicated in October, averaging 16.6 mb/d, or almost 1 mb/d below September (and a full 2 mb/d below July's high). The very steep monthly fall was due both to heavy maintenance and weak margins, and was spread across all three countries. 

The 120 kb/d downward revision to regional runs from last month's report however came from Mexico, which also saw a dip in rates, to 1.1 mb/d, from 1.2 mb/d a month earlier. In Canada, weekly data from the National Energy Board show that Canadian crude throughputs fell by about 120 kb/d in the month, to average only 1.5 mb/d. Shell announced it started shutting its 130 kb/d Montreal refinery in mid-September, with the phased shutdown expected to be completed by the end of October. A six-week maintenance programme at Canada's largest refinery, Irving's 300 kb/d plant at St. John, also contributed to lower runs. Weekly data show Canadian runs recovering from the second half of November onwards.



US crude runs dipped below 14 mb/d in early October for the first time in seven months, cutting capacity utilisation to just 82%, and trended sideways throughout the month. High product stocks (of both gasoline and diesel) capped refinery margins, while maintenance remained significant, at around 1.4 mb/d. The monthly decline of some 750 kb/d was almost evenly split between PADDs 1, 2 and 3, which each saw runs curtailed by 200-250 kb/d from September. Runs on the East Coast continued their steep declines and were only 765 kb/d at the end of October (and 520 kb/d lower than July highs).

In November, total US crude runs were up by 190 kb/d, with the US Gulf Coast showing some strength, despite lower margins. US East Coast refinery runs recovered from their recent record-lows, as maintenance at ConocoPhillips' Trainer and Bayway refineries and United Refining's Warren refinery was completed. According to the EIA, crude distillation outages are expected to average 260 kb/d in December and 620 kb/d in January, compared to 505 kb/d and 995 kb/d the same months a year ago.



October OECD European throughputs were 80 kb/d higher than our previous estimates, averaging 11.6 mb/d. As highlighted in last month's report, the sharp decline from September (-1.1 mb/d) stemmed mostly from France where product supplies were severely disrupted due to industrial action at ports, refineries and storage depots. In Spain, CEPSA officially launched the expanded Huelva refinery on 27 October. The 100 kb/d addition doubled crude distillation capacity and was aimed at increasing the plant's middle distillate yields. The expansion was completed at the end of the second quarter, but a fatal accident at the plant on 4 August subsequently halted operations.



Europe Prepares to Switch Off-road Diesel to 10 ppm

In line with the European Commission's Fuel Quality Directive (FQD), European refiners are preparing to switch off-road diesel from a maximum permissible sulphur content of 1 000 ppm (allowed since Jan 2008) to 10 ppm from 1 January 2011. The lower sulphur limits applies to gas oils intended for use by non-road mobile machinery (including inland waterway vessels), agricultural and forestry tractors and recreational craft.

In order to accommodate minor contamination in the supply chain, member states may permit off-road diesel to contain up to 20 ppm of sulphur at the point of final distribution to end users. They may also allow, until 31 December 2011, sales of gasoil containing up to 1 000 ppm sulphur for rail vehicles and agricultural and forestry tractors, provided that they can ensure that the functioning of emissions control systems will not be compromised. Certain derogations are also possible for the outermost regions (such as the French overseas departments, the Canary Islands, Azores and Madeira), and for member states with severe winter weather.

Furthermore, a 6-month grace period (from January to June 2011) may be allowed by the authorities before officially starting sampling of off-road diesel to verify compliance. It seems, however, that fuel suppliers intend to comply with the start date without a delay.

Several countries, such as Italy and Greece, already switched all diesel for transport, including off-road diesel, to 10 ppm since 1 January 2009. Both Spain and Belgium have stated that the enforcement date for 10 ppm off-road diesel will be as scheduled and that they do not intend to use the FQD temporary derogation. In Belgium, however, the process to enforce the new fuel specifications is through a royal decree, and no such decree has yet been issued. Considering the current political situation in Belgium (that is, only caretaker governance), implementation might be delayed. In France, while no decision has been taken regarding a delay of the implementation of the higher fuel standards, the recent problems of the refinery sector, may cause some minor delays in full implementation.

October OECD Pacific crude runs averaged 6.3 mb/d, down 290 kb/d from September. The decline was mostly accounted for by Japan, due to maintenance, but runs also slipped in the other countries. Australian throughputs fell 85 kb/d, to 575 kb/d. South Korean crude runs were also slightly lower, though sustained at relatively high rates. South Korea's crude imports hit 20-month highs in October as runs hovered around 2.5 mb/d, up 160 kb/d from a year-ago. Most of the higher output went to meet overseas demand as product exports rose to a two-year high, as both Japan and China increased imports.



In Japan, crude throughputs fell to 3.2 mb/d in October, in line with seasonal trends and our previous assessment. According to weekly data from the Petroleum Association of Japan (PAJ), runs rebounded quite sharply in November as maintenance wound down and refiners started rebuilding stocks ahead of the peak-winter demand season. Runs were 355 kb/d higher than a month earlier, and 125 kb/d above the same month a year ago. Despite numerous reports of Japanese refiners running at their highest levels since February 2009, year-on-year gains in utilisation are exaggerated by lower capacity estimates. According to the PAJ data, Japanese refinery capacity was reduced further in November, to 4.06 mb/d, 100 kb/d lower than October and 320 kb/d below the same time last year.

Refiners are reportedly planning to increase runs further in December, and Japan's largest refiner, JX Nippon Oil & Energy, announced its plans to raise runs by 2% above a year earlier, as domestic demand is proving more resilient than many had feared. Refiners normally increase runs at this time of year to build stocks and to meet the seasonal increase in demand for heating fuels. This year, however, kerosene stocks are trending below their five-year average and have not risen in line with seasonal trends. Kerosene stocks normally peak at the end of November before the heating season starts, though this year refiners have started drawing inventories earlier, perhaps suggesting that refiners will need to run at higher levels than normal during the winter season to keep up with demand.



Non-OECD Refinery Throughput

Non-OECD refinery crude throughputs continue to trend at the top of their historical range, driven by strong demand growth and increased distillation capacity. 3Q10 non-OECD runs are estimated to have averaged 38.1 mb/d, almost 1 mb/d higher than a year earlier. Growth continues to be dominated by China, which accounted for 55% of non-OECD yearly growth in the quarter, but the FSU, Africa and the Middle East also recorded significant annual increases. In 4Q10, runs are expected to remain relatively flat, at just over 38 mb/d, as higher Chinese (and to a lesser extent Other Asian) runs are mostly offset by seasonally lower throughputs in the FSU and Africa.



Chinese refinery throughputs reached yet another record high in October. At 8.8 mb/d, crude runs were 920 kb/d higher than a year earlier and 230 kb/d above the previous month. As highlighted in previous reports, refiners are maximising output amid strong domestic diesel demand and reported shortages in some regions. Diesel demand has surged largely as a result of a sharp increase in the use of stand-alone generators following power rationing by local governments trying to meet national energy conservation and emission targets. In its 2006-2010 Five Year Plan, China had aimed to cut energy consumption per unit of GDP by 20% compared with 2005, while reducing emissions of key pollutants by 10% in the same period. Runs are expected to have risen further in November, in part supported by higher domestic retail prices. China raised official product prices at the end of October, for the first time in seven months. Gasoline and diesel prices rose by 3% while jet fuel was hiked by 4%, resulting in improved profit margins for refiners. State-owned refiners, Sinopec and PetroChina, both announced they were delaying maintenance and maintaining record runs to meet surging demand.

In Other Asia, runs recovered from their September-dip following stronger operating rates in India and Taiwan. Indian crude runs rebounded from September-lows to average 3.85 mb/d in October, 120 kb/d lower than a year ago and 240 kb/d up on a month earlier, due to lower maintenance activity. Runs are expected to dip again in November however, as Reliance reportedly shut half its 660 kb/d domestic Jamnagar refinery from the end of October to mid-November.

After averaging only 750 kb/d in September, or around 60% of capacity, Taiwanese crude runs are expected to have rebounded in October as Formosa likely ramped up runs at its Maillao refinery. The 540 kb/d plant has been running at reduced rates since the end of July, after a fire damaged a residue desulphurisation unit (RDS) and one of the plant's three crude distillation units (CDU). While the RDS remains offline, we expect the 180 kb/d CDU to have been restarted. The company has reported it will switch some of its crude oil to low-sulphur types pending the repair of the RDS unit.



Russian crude throughputs fell by 140 kb/d, or 2.8% in October, due to maintenance and higher crude oil exports via Transneft. At an average 5.0 mb/d, runs were nevertheless 530 kb/d higher than a year earlier. Runs were also lower in Kazakhstan, as PetroKazakhstan's Shymkent plant started a 30-day maintenance programme on 15 October. Runs were 220 kb/d, 75 kb/d below September and 30 kb/d below year-ago. In the Ukraine, Lukoil announced in October that it has moved forward planned maintenance at its Odessa refinery, from 1Q2011 to 4Q2010, because of poor market conditions.

OECD Refinery Yields

OECD refinery yields for September increased for most products except gasoline and jet fuel/kerosene. OECD gross output decreased by almost 800 kb/d compared to August, due to maintenance at both US refineries and in the Pacific.

OECD September gasoline yields fell 0.19 percentage points (pp) from August as gasoline yields in the OECD Pacific dropped 1.1 pp to 23 %. This is the first time this year that the OECD Pacific gasoline yields have been below last year's level, reflecting high stock levels and lower gasoline crack spreads. Due to autumn maintenance, gross output of gasoline fell as well, but remained above last year's level. In OECD North America, gasoline yields rose 0.2 pp in September continuing their upward trend but at a somewhat slower pace than before. Also in OECD Europe gasoline yields increased (+0.2 pp) in line with seasonal patterns, but in the lower half of the five-year average range.



Gasoil/diesel yields in the OECD continued the up trend evident since the spring, and reached five-year highs in September. Although OECD Pacific gasoil/diesel yields fell 0.5 pp, this was offset by increased yields in both OECD North America and Europe.



After trending sideways over the summer, OECD naphtha yields rose 0.4 pp in September, in line with the 5-year average. The yields were lifted by a 1.0 pp increase in OECD Europe, where demand from petrochemical producers was high. OECD fuel oil yields were also slightly higher in September, lifted by higher yields in the North American and Pacific regions.