Oil Market Report: 12 July 2018

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Highlights

  • Demand got off to a strong start this year with global 1Q18 growth at over 2 mb/d, helped by cold weather in the northern hemisphere. Recent data, however, point to a slowdown, with rising prices a factor. In 2Q18, growth slowed to 0.9 mb/d. In 1H18, growth will average 1.5 mb/d, falling to 1.3 mb/d in the second half of the year.
  • In 1H19, the comparison with a strong 1H18 will see growth of close to 1.2 mb/d, accelerating to 1.6 mb/d in the second half. We expect growth of 1.4 mb/d in world oil demand in both 2018 and 2019, unchanged from last month's Report.
  • Global oil supply rose by 370 kb/d in June mainly due to higher Saudi Arabian and Russian output as parties to the Vienna Agreement decided to achieve 100% compliance. OPEC crude production in June reached a four-month high of 31.87 mb/d. A surge from Saudi Arabia offset losses in Angola, Libya, and Venezuela.
  • Non-OPEC output is set to expand by 2 mb/d in 2018 and by 1.8 mb/d next year led by the United States, but there are temporary disruptions in Canada, Brazil, Kazakhstan and the North Sea.
  • OECD commercial stocks rose 13.9 mb in May to 2 840 mb, only the third monthly increase since July 2017. However, stocks gained only half as much as normal. At end-month, OECD inventories were 23 mb below the five-year average. Preliminary data show stocks falling in June.
  • Crude oil prices fell in June but since the Vienna Agreement meetings values for ICE Brent and NYMEX WTI have increased by 7% and 13%, respectively, on news of supply disruptions. In product markets, increased refinery output and signs of slowing demand put pressure on gasoline, diesel and jet fuel cracks.
  • Global refining throughput will grow by 2 mb/d from 2Q18 to 3Q18, with more than half of the increase in the Atlantic Basin. Runs are forecast to reach 82.8 mb/d, 0.7 mb/d higher than the previous record level in 4Q17. This could result in large crude stock draws, exceeding 1.4 mb/d. Refined product stocks will seasonally increase by 0.6 mb/d.

Stretched to the limit

Since our last report, OPEC oil ministers and ten non-OPEC oil ministers have met and agreed to achieve 100% compliance with the Vienna Agreement (i.e. they will increase production). What this means in terms of volume and timing remains to be seen as the official communique contained little detail, but there are already indications from leading producers, particularly Saudi Arabia, its Gulf allies, and Russia, that production is climbing and may reach record levels. Such determination to ensure the steady supply of oil to world markets in the face of multiple challenges to stability [BTI1] is very welcome. The prospect of higher supply might be thought to have sent oil prices down, but in fact WTI prices have risen close to levels not seen since November 2014 and Brent prices have recently made a renewed attempt to reach $80/bbl. Higher prices are prolonging the fears of consumers everywhere that their economies will be damaged. In turn, this could have a marked impact on oil demand growth.

That prices have remained relatively high reflects various supply concerns, some of which will be with us for some time to come, e.g. Iran and Venezuela, and others that are probably shorter term. The clearly expressed determination of the United States to reduce Iran's exports by as much as possible suggests that shipments could be reduced by significantly more than the 1.2 mb/d seen in the previous round of sanctions. [BTI2] In June, Iran's crude exports fell back by about 230 kb/d, albeit from a relatively high level in May, as European purchases dropped by nearly 50%. Most of Iran's oil goes to Asia, however, with China and India currently taking over 600 kb/d each. When you also consider that both China and India are exposed to Venezuela, importing respectively 250 kb/d and 325 kb/d, it is clear that the world's second and third biggest oil consumers could face major challenges in sourcing alternative compatible barrels.

The re-emergence of Libya as a risk factor in global supply follows a series of attacks on key infrastructure that saw production plummet to around 500 kb/d in July from close to the 1 mb/d level seen for about a year. At the time of writing, the situation seemed to be improving[BTI3] , but we cannot know if stability will return. The fact that so much production is vulnerable is clearly a cause for concern. Incidentally, China receives nearly 140 kb/d of oil from Libya. Two other supply disruptions are likely to be short-lived. In Alberta, 360 kb/d of output from Syncrude's heavy crude upgrading facility was shut-in from 20 June and in the North Sea oil production fell sharply in May by nearly 360 kb/d and output likely remained constrained due to summer maintenance and strike action in Norway. In addition, Brazilian production growth so far in 2018 has been lower than expected. At the same time, refiners' thirst for crude oil will remain high during the summer period before seasonal maintenance kicks in.

Some of these supply issues are likely to be resolved, but the large number of disruptions reminds us of the pressure on global oil supply. This will become an even bigger issue as rising production from Middle East Gulf countries and Russia, welcome though it is, comes at the expense of the world's spare capacity cushion, which might be stretched to the limit. This vulnerability currently underpins oil prices and seems likely to continue doing so. We see no sign of higher production from elsewhere that might ease fears of market tightness. Indeed, in this Report, our overall growth outlook for non-OPEC production in 2018 has been reduced slightly to 1.97 mb/d, although in turn our 2019 growth estimate shows a modest increase to 1.84 mb/d. On the demand side, although there are emerging signs of reduced economic confidence, and consumers are unhappy at higher prices, we retain our view that growth in 2018 will be 1.4 mb/d, and about the same next year.

The northern hemisphere summer promises to be anything but quiet as markets adjust to the ever-changing geopolitical and physical climate. We continue to be in a close dialogue with major producers and consumers, both inside and outside the IEA family, and are monitoring market developments in order to be prepared to advise on any support that might be needed.

Demand

Summary

After a very strong start to the year, with 1Q18 year-on-year (y-o-y) demand growth estimated at over 2 mb/d, recent data point to a slow down. April saw a deceleration in some countries and provisional data for May (June in the case of the US) indicate that higher prices are starting to take their toll on demand. Exceptional events (such as the truck drivers' strike in Brazil) also contributed to the slowdown. This all leads to a downward revision for demand in 2Q18. Historical data have been slightly revised with the publication of OECD annual data.

For 3Q18 we expect a significant slowdown in world oil demand growth, followed by a rebound in 4Q18. In 2019, the comparison with a strong 1H18 will see growth close to 1.2 mb/d in the first half of the year. Solid economic performance and relatively little change in outright oil prices versus 2018 (we used the Brent futures curve as a price assumption) will support an acceleration of demand growth to 1.6 mb/d in the second part of 2019. Overall, we expect growth of 1.4 mb/d in world oil demand in both 2018 and 2019, unchanged from last month's Report.



OECD Americas oil demand growth is expected to be robust in 2018, at around 340 kb/d, supported by a very strong start to the year reflecting harsh weather conditions and the start-up of petrochemical projects in the US. More ethane crackers coming on stream should maintain OECD Americas oil demand growth at 155 kb/d in 2019. Modest gains in OECD Europe should be roughly offset by similar declines in OECD Asia and Oceania. Overall, we expect OECD oil demand growth to slow from 340 kb/d in 2018 to 165 kb/d in 2019.



Non-OECD oil consumption is expected to increase by 1.05 mb/d in 2018, lower than the 1.17 mb/d seen in 2017 as rising prices limit demand. In 2019, a large part of the price impact should have been absorbed and non-OECD growth is set to accelerate to 1.21 mb/d, with Asia the largest contributor.

Supply

Summary

Global oil supply rose by 370 kb/d to 98.8 mb/d in June as Saudi Arabia and Russia opened the taps ahead of a meeting between Vienna Agreement producers. Output curbs by the 24 countries party to the January 2017 pact slipped to 1.8 mb/d, from 2.3 mb/d in May and a peak of 2.5 mb/d in April. Compliance for OPEC members eased to 120% in June, while non-OPEC slipped to 66%. This equates to an overall compliance of 100%, according to IEA estimates.

The producers agreed in Vienna to strive for 100% compliance with supply cuts of 1.8 mb/d from July. Saudi Arabia and Russia, the driving forces behind the Vienna Agreement, said the accord would result in an actual supply increase of around 1 mb/d based on their estimates. Already in June the two key producers lifted output by more than 500 kb/d between them. Saudi Arabia's sharp increase allowed it to overtake the US and reclaim its position as the world's second largest crude producer, and if it carries out its intention to produce at a record rate near 11 mb/d this month, it will challenge Russia. For its part, Russia boosted output by nearly 100 kb/d in June and said it would add up to 200 kb/d over the second half of 2018.



Higher volumes from Saudi Arabia and Russia only went so far, however, as a number of outages restricted flows elsewhere. The biggest month-on-month (m-o-m) decline came from Libya, which saw oil output drop by 260 kb/d on average in June to 760 kb/d due to renewed unrest. Production this month had fallen by several hundred thousand barrels a day more, although the situation appeared to be improving at the time of writing. A prolonged outage at one of Canada's upgraders from mid-June cut synthetic crude production by more than 300 kb/d and temporarily restricted flows into Cushing. Heavy maintenance and unscheduled outages also curbed output in the North Sea, Brazil, Kazakhstan and Angola over the May-June period.

Even so, global oil output was 1.25 mb/d higher than a year ago as rampant US output underpinned healthy non-OPEC growth. Non-OPEC supplies in June were 1.95 mb/d higher than a year earlier. For the year as a whole, non-OPEC output is expected to expand by nearly 2 mb/d before easing slightly to 1.8 mb/d in 2019, as US supply growth slows from 1.7 mb/d in 2018 to 1.2 mb/d next year. Along with an increased decline base, limited takeaway capacity, inflationary pressures and more disciplined spending are contributing to the slowdown in growth (see IEA World Energy Investment Report to be launched on 17 July 2018 for a detailed look at global energy investment trends). Despite higher output in June, OPEC oil supply was down 700 kb/d compared to a year ago, with Venezuela lower by nearly 800 kb/d, Angola by 210 kb/d and Libya by 130 kb/d.

As for OPEC crude supply, the Saudi surge more than offset declines elsewhere. Production from the group rose by 180 kb/d in June to 31.87 mb/d. The June figure does not include output from OPEC's newest member, Congo, which will be included in our estimates starting from the August Report.

So far, there has been little impact on Iran's crude production from renewed US sanctions, although exports have fallen from elevated levels in April and May. Although the full impact of the US decision to withdraw from the Joint Comprehensive Plan of Action (JCPOA) and apply the toughest ever sanctions on Iran will not be felt until later this year, the result could be an even steeper reduction than the 1.2 mb/d seen during the previous round of sanctions.

While the latest OPEC output figure is close to the call on OPEC crude and stock changes for the remainder of the year, and nearly 0.5 mb/d higher than the call for 2019, further supply losses from Venezuela, Libya and Iran would have to come out of inventories or be offset by other producers.

Within OPEC, there are only three countries that hold significant spare production capacity that is readily available. Much of Iraq's spare capacity is currently unavailable due to the longstanding political dispute between the Federal Government and the Kurdistan Regional Government (KRG) that has shut in pipeline capacity. According to IEA estimates, Saudi Arabia, the UAE and Kuwait had 2.1 mb/d of spare capacity in June. The three producers may raise supply by an extra 500 kb/d or more during July, with Saudi Arabia suggesting it could reach 11 mb/d. Kuwait has offered to add 85 kb/d and the UAE said it could produce several hundred thousand barrels a day more.

Taken together, these increases would tighten spare capacity from the Gulf to around 1.6 mb/d in July. In 4Q18, US sanctions on Iran are expected to hit hard and Venezuelan capacity may spiral lower. To help compensate for the further unplanned declines and limit stock draws, Saudi Arabia could ramp up even more which would cut its spare capacity to an unprecedented level below 1 mb/d.


Stocks

Summary

OECD commercial stocks rose 13.9 mb month-on-month (m-o-m) in May to 2 840 mb, only the third monthly increase since July 2017. However, stocks gained only half as much as normal at this time of year. At end-month, OECD inventories were 23 mb below the five-year average. Crude oil stockpiles increased 1.3 mb on the month to 1 108 mb, but it was 'other' product stocks that drove most of the gains. They went up 14.5 mb m-o-m, in line with the five-year average increase, to 379 mb, as the restocking season for LPG gathered pace. Gasoline inventories decreased seasonally by 1.7 mb to 388 mb, and middle distillates fell to a fresh three-year low of 521 mb. Distillate stocks are well below the five-year average in the Americas and Europe, driven by a combination of higher demand and exports to non-OECD countries (mostly Latin America).



For June, preliminary data show that commercial stocks fell in most OECD regions. In the US, crude inventories fell by a sharp 18.4 mb versus May, thanks to record high refinery runs and crude exports. However, the higher runs and continued seasonal LPG restocking also buoyed oil product stocks, which gained by a combined 17.8 mb. The net result is an overall 0.6 mb draw. Japanese oil stocks decreased by 8.4 mb with falls seen in crude as well as in most product categories. This is a larger-than-usual fall with the five-year average decrease for June at 0.4 mb. In Europe, oil inventories increased just 0.2 mb as higher refinery utilisation led to a draw in crude and a build in oil products. Overall, figures for Europe, Japan and the US show a marginal stock fall of 8.8 mb for the month of June, approximately in line with the five-year average decrease for the month.



Revised data for OECD oil inventories showed increases versus preliminary numbers: March OECD stocks were revised up by 3.8 mb and for April there was a bigger revision of 17.2 mb. We have identified a data break for Swedish NGL and feedstock inventories between December 2017 and January 2018 due to increased coverage. However, at 6 mb in April, these stocks do not represent a significant volume.


Prices

Summary

Outright crude oil prices took a break from their upward trajectory in June, with ICE Brent and NYMEX WTI down $1.07/bbl and $2.66/bbl respectively. However, since the Vienna Agreement meetings in June prices have increased as new supply disruptions shook the market. In addition to the continuing declines in Venezuelan output and the expressed determination of the US to reduce Iranian exports as much as possible, unrest in Libya saw production fall dramatically while an unplanned outage in Canada disrupted flows. Occurring alongside strong US refinery demand and high export levels, this caused NYMEX WTI to hit a three and a half year high. However, ever-increasing US production has seen physical markets for light, sweet crude well supplied, evidenced by falling differentials in the North Sea and West Africa and continuing contango in the Brent contract for differences (CFD) market. Nevertheless, despite production growth from some Vienna Agreement countries, market sentiment is bullish given shrinking global spare capacity and reduced stock levels. In product markets, increased refinery output has put some pressure on cracks. Conversely, fuel oil prices held up against crude on strong demand and an anticipated decline in supplies from Iran, a key exporter.

Refining

Summary

Largely finalised data for the first half of the year show growth in refining activity confined to the East of Suez region, which includes Asia and the Middle East. China's 700 kb/d year-on-year (y-o-y) growth was higher than global growth of 550 kb/d, offsetting a 400 kb/d decline in the Atlantic Basin. Moving into the second half of the year, increasing throughput in North America, with seasonal record rates in the US, helps split the growth between the two hemispheres, although the East of Suez will still dominate.



From the seasonal low of just 80 mb/d observed in April, global throughput is estimated to have increased by 1.6 mb/d by June, halfway towards the seasonal peak of 83.3 mb/d expected in August, after which it will slow down in September-October. Our forecast for 3Q18 throughput is revised up by 0.3 mb/d, implying a larger build in refined product stocks, now forecast to reach 0.6 mb/d, after a 0.7 mb/d draw in the first half of the year. This will, however, come at a cost of stronger draws in crude inventories, which are expected to exceed 1.4 mb/d in 3Q18.

There has been an interesting shift in the seasonality of refined products demand this year. In 1Q18, there was strong y-o-y growth in the call on refinery supply, at 1.4 mb/d, boosted partly by weather-related demand for heating (diesel and kerosene) in the northern hemisphere. A more moderate growth of just 0.5 mb/d y-o-y is expected in 2Q-3Q18, before another surge of 1.2 mb/d in 4Q18.



Margins

Refinery margins in the US and Singapore were under significant pressure in June. In the US, stronger physical crude differentials due to North American supply issues, combined with record throughput levels, contributed to an $2/bbl average slide in margins. Growing Chinese clean products exports, now reaching Japan, Australia, the US West Coast and Mexico, affected Singapore product cracks, bringing refinery margins lower month-on-month (m-o-m).

In contrast, European margins moved higher, as lower refinery activity boosted diesel and fuel oil cracks. Among the three major global hubs, Europe remains the only net importer of products, especially middle distillates.