September 17, 2012 / 1:32 AM / 5 years ago

Analysis: Asia diesel crunch to persist despite refinery output boost

SINGAPORE (Reuters) - Asia's oil refineries are readying to cash in on a diesel supply crunch that will keep prices high in the next few years as big regional consumers such as Australia step up imports, while refineries in Europe and Japan are closing down.

Asian refiners will capitalize on the growing tightness by producing more diesel and less of its competing transport fuel, gasoline, but the deficit will persist in the face of rising exports to Europe, where poor economics is forcing plants to shut, and Africa, where economic growth is boosting use.

"Growing deficits in China, India, southeast Asia and Australia will provide more opportunities for Asian export refineries to increase exports to these closer-to-home markets," said Sushant Gupta, a senior downstream analyst at Wood Mackenzie.

"Deficits for diesel, mainly in Europe and Africa, will continue to provide arbitrage opportunities for Asian exporters, thereby creating a need for greater diesel production."

Diesel is the oil product Asia uses most widely, accounting for 30 to 40 percent of refinery output, to run generators and water pumps and keep lorries and trains on the move.

Diesel demand in Asia is poised to grow about 14 percent by 2015 to reach 9.8 million barrels per day (bpd) from around 8.6 million now, led by China, India and Australia, data from IHS and Wood Mackenzie showed.

The switch from gasoline to diesel is likely to yield an additional 250,000 to 300,000 bpd of diesel in Asia by 2015, Wood Mackenzie analysts said.

A refinery can typically switch about 1 to 2 percent of its output between the two fuels without altering its configuration or production process.

But even after the switch from gasoline, Asian diesel production is only expected to grow 9.9 percent to 10 million bpd in 2015 from 9.1 million bpd now.

That means the diesel surplus pool will shrink to 200,000 bpd by 2015 from 500,000 bpd now, IHS said. The surplus helps keep regional spot prices in check and also helps provide exports to Europe and Africa.

REFINING PROFITS

Net diesel exports from Asia to Europe, Africa, Australia and parts of Latin America are expected to increase 5 percent to 765,000 bpd by 2013 from 729,000 bpd in 2009.

The tightness is being reflected in the Asian diesel market. Profits from processing a barrel of crude into diesel averaged $16.97 a barrel in the first eight months of 2012, or more than double those of 2009, Reuters data showed. Profits hit the year's highest in August, at $21.01, the most in 14 months.

In contrast, processing crude into gasoline has become less profitable. A refiner earned $9.18 by producing gasoline in the same months of this year, an increase of 63 percent from 2009, with the year's highest struck on August 13, at $14.94 a barrel.

Favorable economics for diesel is already prompting some refiners in the region to switch. Diesel yields have risen to 34.6 percent in 2011 from 33 percent in 2006, said Praveen Kumar, an analyst with FACTS Global Energy.

"For this year, we have been producing less gasoline and more diesel as the margins for diesel have been much better," a north Asian refiner said, declining to be identified as he is not authorized to talk to the media. "Cracking margins change every day, so it really depends on the trend."

REFINERY LIMITATIONS

The limitation on altering output, by at best 1 to 2 percent, means the diesel supply crunch in Asia is here to stay, if not worsen, even though economics dictates that more and more refiners should opt to boost output of the fuel.

"Although refiners are motivated to capture the improved margins by switching yields, they are constrained by several factors including configurations, operational flexibility, crude diet," said Kumar.

Asian refiners mostly own configurations based on gasoline-making fluid catalytic cracking units (FCCU) and a further push towards diesel will need fresh investment for plant upgrades, he added. That may prove too costly, especially with a weak outlook for overall global energy demand growth.

"It is possible that refiners might switch their fluid catalytic cracking units to maximize diesel production with better margins for diesel, but they won't be able to switch much," another refinery source said.

Older refineries can try and circumvent costly upgrades by importing crude that yields more diesel, but that will also mean added investment on sulphur-removal units to produce the cleaner-burning grades becoming mandatory in most countries.

"In an existing refinery, it is not that easy," said Victor Shum, managing director for downstream energy consulting at IHS Purvin & Gertz. "A diesel-oriented refinery may be more expensive. The market may need more diesel, but it costs less to make a gasoline-oriented refinery."

SUPPLY

The diesel supply crunch is set to get worse.

Japan, the world's third-largest oil consumer, is scrapping capacity after a government order to boost efficiency by upgrading or mothballing refineries. A shrinking domestic market offers refiners little incentive to invest in costly new units.

The latest refinery shutdown news comes from the country's fourth-biggest refiner, Cosmo Oil Co. 5007.T, which is to shutter its 140,000 bpd Sakaide refinery next July, and may have to close further capacity to meet a 2014 deadline.

"From the beginning, Japan is geologically handicapped because we need to import (crude) from the Middle East to the Far East and then ship products back to the West again," said Hiroshi Kiriyama, senior executive officer of Cosmo Oil Co.

The increase in demand and refinery upgrades in Asia means the yield of gasoil from regional refineries will reach 36 percent by 2015, according to Kumar at FACTS Global.

That is more so because capacity addition in the Middle East and declining exports to the United States are likely to shut out 140,000 bpd of gasoline exports from Singapore and India, according to Wood Mackenzie analysts, weighing on prices.

"To balance out gasoline and diesel on a global level, Asia should play some part," Wood Mackenzie's Gupta said.

"We believe that Asia should shift on average around one percent of production from gasoline to diesel by 2015."

Additional reporting by Risa Maeda in Japan; Editing by Manash Goswami and Clarence Fernandez

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