Weaker Arab Light Prices Likely To Continue Over Coming Months

BMI View : Saudi Aramco has cut the official selling price (OSP) of its Arab Light crude for Asian customers by more than expected. This reflects attempts by the company to help sustain Asian refinery demand for its crude in light of increasing alternative crude supply options for Asian consumers and overall weaker Asian demand. In light of a moderate economic growth outlook in many Asian countries, weakening domestic currencies and alternative supply potential, we could see weakened Saudi light grade crude OSP in the months to come.

Saudi Aramco has set the March official selling price (OSP) of its benchmark Arab Light grade to the Asian market at a premium of US$1.75 per barrel (bbl) to Omani crude, down from US$2.45/bbl in February. This is a reduction of about US$0.70/bbl for Asian buyers, which is lower than market expectations of cuts of between US$0.30-0.60/bbl. This is the lowest price for Asian buyers since July 2013. The Arab Light OSP for the United Stated remained unchanged from February's, at US$1.85/bbl, while prices for the same crude grade to North West Europe were raised by US$0.25/bbl to about US$2.15/bbl. At current Oman spot prices, this would make Saudi Light grade crude prices of about US$105.08/bbl.

The company typically releases its OSP price for its five crudes (Arab Super Light, Arab Extra Light, Arab Light, Arab Medium, Arab Heavy) at the start of each month after a meeting. The company sets its crude prices based on recommendations from customers and after estimating the change in the value of its oil in the past month based on production and product prices.

Maintaining Asian Demand In Light Of Reduced Demand And Low Refining Margins

The reduction in the light crude OSP is most likely intended to help sustain Asian refinery demand for its crude, which has stagnated at the moment, such as in China ( see, 'Downstream Slowdown Imminent,' January 31) and this for two reasons. First, Saudi Aramco is seeing falling March-April crude demand as Asian refineries undergo seasonal maintenance in the next few months between the peak demand periods of the northern Asian winter and the summer. According to Platts, the turnarounds along with planned permanent refinery closures in Japan could shut about 1.9mn barrels per day (b/d) of capacity across Asia by April. In addition, a mild winter has seen Japan and South Korean refiners in particular cut output on lower demand for heating fuel, and a generally slower economic growth from the region's top consumers such as China and India has slowed demand.

Secondly, refining margins in several of the region's top oil importers have been tightening in the past few months, partly as a result of weakening currencies which has increased crude import prices for countries such as in India, Indonesia, Japan and Pakistan. India is a case in point. As Asia's second-largest oil importer, the steep weakening of the rupee has led to higher crude import costs, even though crude prices in dollar terms have weakened slightly.

Softening Crude Prices In Dollar Terms
OPEC Basket, US$/bbl

According to Reuters, while India does regulate fuel costs such as diesel, consumers are starting to feel the impact with diesel prices rising by 15.2% year-on-year (y-o-y) in 2013. In particular, gasoline prices have increased 7.6% y-o-y, bringing the total increase over the past three years to 24%. Lower Saudi crude OSP could allow refiners to contain a further deterioration to their refining margins by reducing crude feedstock. This would reduce operating cost pressures on Asian refineries and mitigate the possibility of demand reduction.

Maintaining Market Share As Competition Increases

Saudi Arabia's crude price drop also reflects another dynamic whereby Saudi crude is facing increased competition from other crude suppliers. With increased global supply (global production of about 89.4mn b/d in 2012 and about 89.9mn b/d in 2013 according to EIA data), Asian refiners appeared to have enjoyed an increasing choice of suppliers compared to previous months. For example, according to a Platts report, light Middle Eastern crude is facing increasing competition from large shipments of North Sea Forties to South Korea and China.

China will also likely continue to increase oil imports from Russia in 2014. Russian national oil company (NOC) Rosneft stated in February 2014 that it will be increasing its exports to China by 40,000 barrels per day (b/d) through the Eastern Siberia-Pacific Ocean Pipeline (ESPO) and by 140,000b/d through a pipeline through Kazakhstan, pushing total exports to China to 480,000b/d in 2014. Indeed, Russia's ESPO crude could be an excellent substitute for Arab Light, given comparable API gravity and the lower sulphur content in ESPO than Saudi's Arab Light.

Crude Oil Assays For ESPO & Arab Light
Crude Origin API Gravity Sulphur Content (%)
Arab Light Saudi Arabia 33.4 1.770
ESPO Russia 34.7 0.535
Source: Oil & Gas Journal, Platts

In addition, the easing of shipping sanctions on Iranian oil exports could see countries such as Japan and India slightly increase their imports of Iranian crude in 2014. While this is unlikely in the coming two to three months, any further easing of sanctions against Iran would see several costs-conscious Asian customers such as India increasingly buy Iranian crude, which Iran has also reportedly been willing to sell at discounted prices. In 2013, India imported about 190,000b/d from Iran according to Reuters, down 38% from 2012 before the full imposition of western sanctions, suggesting that there is much room available for Iran to regain market share in the Indian market. The potential of losing market shares from major Asian buyers such as China, Japan and South Korea to Iran could motivate the Saudi decision to cut its crude prices in the future.

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Related sectors of this article: Oil & Gas
Geography: Saudi Arabia

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