The end is nigh for high sulfur European gasoil, despite pockets of demand

It has not been a great year for high sulfur gasoil consumption in Europe, by any stretch of the imagination.

First, the winter was warm across the Continent. Unlike in the US which encountered freezing temperatures in January-February, temperatures were mostly pleasant on this side of the pond.

This dampened demand for heating and in turn pushed cash differentials down. This also meant consumers were well stocked going into the summer, and with at least two outright price spikes in the last few months linked to the wars in Ukraine and Iraq, they have been in no rush to refill stocks.

The gasoil crack, or the profit made by European refiners producing it, has declined as a result, averaging $12.82/barrel so far this year, down 12% year-on-year. A widening contango on ICE gasoil futures over the last few weeks has underlined the lack of demand currently.

Add to that the long-term trend toward natural gas heating in many European countries and you get an increasingly niche market.

High sulfur gasoil consumption (1,000 ppm fuel or under) in France, the largest demand center for the stuff in Europe, was around 7.8 million mt last year, equivalent to a mere 13% of total oil products demand, according to Comite Professionnel du Petrole. By contrast, French demand for gasoil’s less sulfurous cousin diesel, used mostly to power car engines, was a whopping 40.4 million mt.

Belgium, the only other consumer of high sulfur gasoil of any size in Western Europe, is due to move to a 50 ppm gasoil specification in 2016.

On the supply side, things are changing very quickly too as refineries situated in Russia and the Former Soviet Union, traditionally the main producers of 1,000 ppm gasoil, have increasingly converted their output to diesel, which tends to trade at a premium in Europe.

In January, Primorsk, Russia’s biggest export terminal, became a diesel export-only port and it is expected that Latvia’s Ventspils will switch to diesel-only exports next year.

This means that gasoil traders have increasingly looked to the Mediterranean basin to find outlets of demand, even if there have been challenges in that region too.

Algerian gasoil imports, once among the largest in the Med, have halved in the past year and state-owned Sonatrach reckons they will fall to zero next year following the upgrade of its Skikda and Arzew refineries, giving Algeria the ability to meet its own gasoil needs.

Egypt now takes most of its gasoil from the Persian Gulf after an agreement between Egypt’s military-backed government and Saudi Arabia following the removal from power of Mohamed Morsi last year, and the outlook for Libyan gasoil demand remains as uncertain as the country’s future.

Traders have also pointed to the incentive provided by the switch from gasoil to diesel specification in the ICE gasoil futures contract next year.

From January next year, all ICE gasoil contracts will reflect 10 ppm diesel specification and traders have said high sulfur gasoil physical market liquidity will fall further as a result.

Some trading companies have talked about converting their gasoil storage in Amsterdam-Rotterdam-Antwerp to diesel, reflecting growing opportunities and liquidity in the market.

To be fair, the gasoil market is already quite opaque, with only a handful of companies dealing directly with each other. One company, Vitol, markets the lion’s share of volumes both from the Baltic area and the Black Sea.

The Rotterdam 0.1% (in other words, 1000 ppm) barge market is likely to remain vibrant as several refineries in the Amsterdam-Rotterdam-Antwerp hub still produce it. There are also changes to upcoming Europe’s Sulfur Emission Control Areas that will likely see more gasoil go into ships and displace bunker fuel.

The 50 ppm gasoil market, which came into existence thanks to tax breaks provided by Germany in 2008, has not taken off in a huge way. Both derivative and physical market deals are few and far between.

Traders say a large chunk of volumes are pumped straight from ARA refineries to Germany instead of being exported to the barge market, where they can be traded between market participants more openly. Increasingly, diesel is being used as the main benchmark to price 50 ppm gasoil.

What does this all mean for high sulfur gasoil?

The fuel is still widely used in certain regions such as South America and West Africa and will remain so for years to come.

In Asia, 500 ppm remains the main standard even if certain countries are mulling a move to 10 ppm specification (diesel).

There will still be pockets of demand in the Mediterranean and in Rotterdam owing to the changes in environmental legislation mentioned above.

But beyond that, the high sulfur gasoil market is likely to become increasingly opaque in Europe and more dependent on diesel for its pricing.

Platts