Surging Energy Prices Bring Near-Term Cheer To Indian Oil Refiners

Diesel’s premium to crude, or the crack spread measured as the difference between the price of processed petroleum products and crude oil, hit a two-year high of $23.97 a barrel on Oct. 14. The Bloomberg Fair Value Low Sulphur Diesel WTI Crack is currently at $22.63 a barrel. The benchmark has surged 83% year to date.

Usually, a rise in spread improves the core GRM (net of inventory gains) of refineries and vice versa.

Gas prices in India were hiked for the first time in more than two years in October, tracking the fresh peaks touched by international spot benchmarks such as the Japan Korea Marker. The JKM price has jumped 2.5 times so far in 2021. It prompted UBS to cut India’s gas demand forecast for the ongoing and next fiscal. The research firm also expects a further hike in domestic natural gas price in FY23.

This bodes well for diesel, a bellwether for economic activity, after its demand slumped to the lowest in several months when the deadly second wave of the pandemic led to renewed restrictions. But as the Indian economy opened up, consumption of diesel—accounting for 40-50% of the product slate (the proportion of products produced by refining crude) of domestic refiners—gathered pace.

India’s total refinery utilisation in September rose to 88.69% compared with August’s 86.89%, according to government data.

The nation’s diesel exports have jumped 15% month-on-month to 2.6 million metric tonnes in August, according to the latest data available with Petroleum Planning & Analysis Cell. That compares with the last six months’ average of 2.5 MMT. The total petroleum product exports rose 2.2% over the previous month to 4.8 MMT in August.

Higher overseas shipments come when a supply crunch and higher gas prices has prompted a switch to diesel and kerosene for power and heating requirements during the upcoming winter in the northern hemisphere.

Preliminary data suggests that the demand for diesel in India may have crossed pre-pandemic levels in October, Bloomberg reported citing officials with direct knowledge of the matter.

The increased consumption is expected to support the refining margin of oil companies in the near term. The Singapore-Dubai Hydrocracking refining margin, a measure of what refiners make by processing crude, touched a more than two year-high of $6.25 a barrel on Oct. 15, according to Bloomberg data. The benchmark has surged over fivefold so far this year, with the current margins at $5.6 a barrel.

The refining margins are expected to remain elevated if gas prices continue to surge. “High gas/LNG prices continuing in FY23E could encourage the use of diesel generators in China to make up for grid power shortage and boost diesel demand and cracks,” ICICI Securities said in a report.

But some domestic sectors are likely to suffer.

“The rising energy costs are likely to have an inflationary impact on companies in sectors with high energy intensity such as fertilisers, cement, ceramic tiles, and glass,” ICRA Ltd. said in a report. These sectors have a high dependence on coal or natural gas, which have witnessed a sharp increase in prices over the past few months.

“Companies with relatively better pricing flexibility to pass on these higher input costs would be relatively insulated, while for others, margins would erode in an otherwise improving demand environment,” the rating agency said.

Not A Long-Term Relief

The analysts, however, said the gas-to-oil switching may not provide a long-term boost to GRMs.

This, according to ICICI Securities, is because more than 6 million barrels a day of refinery closures are needed to boost GRMs. But only 3.6-million-barrel-a-day global refinery closures are announced so far.

Further, an increase in the U.S. and China’s refinery utilisation and a rise in global capacity addition are key risks to long-term GRM recovery. The International Energy Agency estimates global net refining capacity addition at 1.3-1.47 million barrel a day in CY22-CY23 compared with 0.13 million in CY21.