The Fight For The World’s Hottest Crude Market

Last week we have looked into the rise of US crude exports to Europe, an upsurge characterized by seasonal upswings, a rather non-uniform spread of demand on the back of an overwhelmingly market-based setup. Things are a little bit different when it comes to US crudes conquering Asia, a prime contributor to ever-growing crude demand, as politics steps into the spotlight. Wide trade surpluses, troubled relationships between regional powers, refineries configurated to run Iranian and Venezuelan crudes, states playing a more tangible role in seemingly business-based decisions, Asia has all of this and more. Yet despite the boundless potential for cooperation, the fate of the US-China trade war will regulate the influx of US crudes more than anything else.

There are Asian nations upon which US exporters could rely on. For instance, South Korea expressed its readiness on multiple occasions to bring in more American crude - which it did, already taking in by the end of August 20 million barrels more than it did throughout the entire year of 2018 (importing some 360kbpd in January-August 2019). South Korea also widened its US buying list by becoming one of the most active refiners of Alaskan North Slope. Japan increased its intake by 20 percent year-on-year, however still relies primarily on Middle Eastern crudes with its US imports averaging 75kbpd YTD 2019.

Vietnam had its first-ever US cargo in March 2019 when BP supplied the Dung Quat Refinery with 1MMbbls of WTI. Vietnam pledged to bring in further 2-3 Suezmax cargoes in the second half of 2019, partially due to the slowdown of its own domestic production (the Bach Ho grade remains the staple diet of the Southeast Asian country's refineries) but also as a result of President Trump's foreign policy. The 45th President of the United States has been quite vocal about the inadmissibility of Asian nations enjoying hefty trade surpluses vis-à-vis the United States and crude imports might be a way for Vietnam to placate American worries without getting embroiled into the US-China trade war.

A very similar story has been unfolding in Indonesia, too. Indonesia's production rates have led it to become an OPEC member, yet declining output has eliminated both the erstwhile resource abundance and the Asian nation's OPEC membership (it opted out of the club in late 2016 as it became increasingly strenuous to sit at the same table with Middle Eastern producers, all the while being a net crude importer). Its NOC Pertamina bought its first-ever US cargo in April 2019, an Aframax vessel laden with WTI Midland that arrived on June 04, 2019. The deal was much more secretive than the Vietnamese purchase (the seller remains to be named) and Pertamina has so far kept quiet about the prospects of further US crude purchases.

The United States' love-hate relationship seemed to have weathered all previous storms in late June this year when the reopening of trade talks between American and Chinese negotiators seemed to have augured a period of relative normalcy. It had been challenging before that - just look at the export lull from August 2018 to April 2019 - yet somehow the idea that the burgeoning trade the two countries had before would eventually prevail over other issues. Unfortunately for both sides, this idea did not materialize - whilst the troubled 2018 averaged 192kbpd of US exports to China, this year stands so far at a mere 103kbpd and might go even lower if the tariff-slapping frenzy does not come to a negotiated end.

It will be interesting to see how the Chinese tariffs would affect cargoes that are already fixed but would load only in September. Currently, there are at least 4 of those, all VLCCs. MT Hojo is fixed for a first-decade loader in September, to carry 2MMbbls of WTI to Ningbo. MT Phoenix Jamnagar will load WTI in the US Gulf lightering zones, loading around September 06-07. MT Yuan Qju Hu is expected to load Bakken towards the end of September's second decade and MT Amundsen will load 2MMbbls of WTI around September 15. All the above vessels would arrive to China in October, making October the second-most prolific month of 2019 after May when a total of 8.2 MMbbl of American crude reached Chinese ports.

If the Chinese authorities decide to apply the 5-percent tariff rate to cargoes purchase before the September 01 deadline, trading companies can still resort to direct sales or swaps on the given volumes. Rumour has it that Unipec has already resold one of the cargoes to a South Korean buyer. In essence, the Chinese market's initial reaction seemed to boil down to a complete cessation of US imports from September 01 onwards, wary that any malfeasance vis-à-vis the State Council's general policy line might be costly. Chinese companies have little to no equity barrels produced in the United States, therefore technically it would be quite easy to accomplish. Hypothetically, they could ask for a tariff exemption yet given how cautious state companies were in the relatively calm period of June-August 2019, it would be quite unrealistic to see them adopting a more aggressive approach in the upcoming months.

India's balancing act is also quite subtle and requires a lot of first-class diplomacy not to trigger an irate American reaction. First, it also boasts a significant trade surplus vis-à-vis the United States and has been under palpable pressure to recently to narrow it down to volumes more palatable for the US political establishment. New Delhi is trying to move in that direction, cutting its surplus by $4 billion in the financial year ended March 31, 2019, to some $17 billion. The progress made notwithstanding, $17 billion is still a lot. Second, India's downstream segment tilts towards the complex and sophisticated site, bringing about a natural preference for heavier and sourer crudes, of which the United States can supply little to none.

Therefore, Indian refiners must be very crafty in creating blends from US crudes and heavier barrels (blending WTI with Mexican crudes seems like one of the most preferred paths) from elsewhere so that the end result is closer to the Iranian and Iraqi crudes have served as the configuration basis for Indian refineries. Understandably, there are certain trends that drive India to buy more American crudes (apart from the thinly veiled political pressurizing) - primary amongst them is Saudi Arabia ramping up prices in the Asian region. This leaves Indian refiners searching for other sources of supply, be it West Africa, the Caspian or the United States. Lest not forget, all this happens against the background of OPEC/OPEC+ supply curtailments that do not allow Iraq to pump more crude.

Interestingly, private refiners Reliance Industries and Nayara Energy form the backbone of US crude buyers in India (not state-owned refiners as one would perhaps expect). They can ramp up imports of US crude swiftly but if need be they can bring them to a halt in an instant - as demonstrated by plummeting US supplies to India in August 2019 when the Brent-WTI spread shrunk to as little as $4 per barrel. Also, Rosneft-owned Nayara Energy happens to be one of the few remaining major buyers of Venezuelan barrels (thanks to Rosneft having invested several billion dollars into the Venezuelan market in advance payments), a fact which the Trump Administration repeatedly highlights. Were President Trump to sanction Nayara or Rosneft in any direct way, Vadinar would be removed from the Indian map of US exports.

One thing that is relatively rarely mentioned in terms of reflecting on India's fate is just how beneficial Iranian supplies to India were to New Delhi. Instead of the usual 30-day credit terms, the Iranian national oil company NIOC provided 60 days, coupled with free insurance on the cargo (as they were provided by NITC). Since the United States has no national oil company and does not back up private producers on softer issues like pricing or insurance, India might feel tempted to seek a very peculiar path forward, one that would entail the accession of Middle Eastern capital into India's downstream in return for more favorable pricing terms (i.e. decoupling supplies to India from the general Asian trends). Saudi Aramco's getting increasingly closer to clinching the deal on the Reliance buy-in carries in it tangible benefits for India, too.