The Impact of Russia’s Refinery Upgrade Plans on Global Fuel Oil Markets

While higher fuel specifications and regulatory changes in the bunkers market are most likely to have a big impact on long-term fuel oil demand, a structural shift of a similar magnitude on the supply side is already taking place, particularly in Russia, the largest exporter of fuel oil. The Russian government’s firmly stated commitment to the regeneration of its country’s refining industry and its determination to ensure that domestic demand for higher quality products is met would suggest that, although the exact timing of a reduction in fuel oil production may be unclear, a sharp decline in fuel oil exports by 2016 seems inevitable. We show that in the past, price relationships between high sulphur and low sulphur fuel oil and between heavy fuel oil and crude oil and diesel have been subject to structural breaks, but price movement did not increase or decrease without bounds as the refining industry continued to adjust to increasing demand for petroleum products and changing global demand patterns towards cleaner products. Looking ahead, as investment in refining capacity expands and as upgrading of refining units accelerates in Russia and elsewhere, price spreads are likely to exhibit similar behaviour to that in the past few years. This does not imply that structural breaks in the price relationships will not occur. For instance, governments’ desire to implement more stringent requirements without ensuring that the refining infrastructure is ready for such a shift or delays in refining projects will most likely destabilise the behaviour of price differentials, though the timing and the nature of such potential breaks (abrupt of gradual) remain highly uncertain.

By: Bassam Fattouh , James Henderson

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