Refiners ponder a sweet-and-sour conundrum
By SARAH KENT and JENNY GROSS
The European Union's ban on Iranian oil has pushed up the price of similar types of low-quality oil as buyers scrabble for alternative supplies.
Paradoxically, there are surprising bargains to be found for refiners with the flexibility to purchase and process higher-quality grades.
While the price of high-sulfur Russian Urals crude has risen sharply since the embargo began on July 1, higher-quality grades in the Mediterranean and West Africa have come under pressure, providing some unexpected breathing room for at least some European refiners.
Soaring crude-oil prices and weakening local demand for fuel eroded profits for European refiners in recent years, resulting in several high-profile shutdowns.
Eight European refineries, equivalent to about 8% of the working refining capacity in the region in the first quarter of this year, have closed since the start of the economic crisis in 2008.
Now, refineries that are able to process light, sweet crudes are increasingly taking advantage of the lower prices, traders in the Mediterranean market said.
"All the Iranian crude is no longer coming to Europe and that's causing a relative shortage of heavy grades versus light ones and is creating a distortion in the market," said Massimo Vacca, head of investor relations at Saras, an Italian refiner.
"Saras is lucky because we have a flexible refining configuration. In general, not all refineries can easily switch from one grade to the next."
European refiners have traditionally coveted high-quality, sweet oil because it is easier to process into high-value products such as gasoline.
As a result, it normally trades at a premium to oils with a high sulfur content, similar in quality to Iran's crude, such as Urals and Iraq's Kirkuk.
But the price of lower-quality crudes has been driven higher this month because of the Iranian embargo, and low supplies and delays in exports of Urals and Kirkuk.
At the same time, a surge in production of shale oil in the US has reduced demand for light, sweet crude, while competition remains high for heavier crude because of demand from high-tech Asian refineries that can process it. And the resumption of Libyan crude output has added to the glut of the light, sweet crudes.
Iranian oil output fell by 100,000 bpd in June, compared with May, to 3.2 million bpd because of US and European Union sanctions aimed at pressuring Iran over its nuclear program. This took Iran's oil production to near 22-year lows.
Morgan Stanley, in a note published Wednesday, said the loss of medium-sour oil from Iran has pushed some refiners to shift purchases toward cheaper and more-available light, sweet crudes from the Atlantic Basin.
But not all refiners have the ability to easily switch between grades of crude oil, and that is putting pressure on them to acquire similar-grade oil from other sources. The European Union, on average, took 800,000 bpd of oil from Iran in 2011.
"The refiners will clearly switch to the grades that make most sense economically if they can make it work, but in the first instance they would look for crude of a similar quality to ones that they normally process, which is why Urals and Iraqi crude may be preferred," said Toril Bosoni, a senior oil-market analyst at the international Energy Agency.
"Anecdotal evidence and prices indicate there is increased buying of Urals to replace Iranian [crude], and it's a good substitute quality wise."
In the last week, Urals traded at a premium of as much as 30 cents to the physical Brent benchmark.
"In the past, sweet was stronger, but nowadays the situation is different," said one oil trader at a European refiner, noting that the surge in production in the US has caused the export market for light, sweet crudes to fall apart.
Dow Jones Newswires