Easing lockdowns in Europe lend support to diesel, but weak jets adds pressure

London — The European diesel cargo market was looking stronger at the end of last week amid an increase in diesel consumption at the pump thanks to the lifting of lockdowns in many countries, as well as a still-closed arbitrage from the East of Suez, and refinery run cuts.

However market participants said they do not expect any instant revival.

"Demand for diesel is growing but it had slumped so low that it is not difficult to go higher," one diesel trader said.

CIF Med ULSD cargoes jumped $33.25/mt on the day to $305.75/mt Monday, to be assessed at a $3.75/mt premium to front-month ICE low-sulfur gasoil futures, up from a $3.50/mt premium the previous day.

Demand collapsed as countries around the world imposed travel restrictions to combat the spread of COVID-19. With diesel output exceeding demand, inventories started building. ARA stocks of diesel and gasoil reached a 14-week high on May 6, according to Insights Global data. In the US inventories were also rising.

Refineries on both sides of the Atlantic have tried to manage the excess supply with run cuts.

In Europe, refineries in Italy, France, Spain and Portugal either fully halted or reduced runs, by as much as 50%.

But despite the run cuts, the unprecedented weakness of the jet market was adding further volumes to an already oversupplied market.

"Most refiners have maximized diesel output at the expense of jet fuel," the International Energy Agency said in its latest report.

"The jet demand disruption was just so severe, and everyone started blending jet into diesel," US refiner Valero said last month when presenting its first-quarter results.

As a result, the jet market in the Mediterranean tightened on a combination of reduced throughput and refiners dropping any kerosene in the diesel pool, traders said.

One of the region's refiners, Israel's Bazan, said that while jet fuel demand continues "to suffer from weakness in light of air traffic restrictions" it has "the ability to reduce jet fuel production and to partly dilute it with diesel fuel."

As the recovery of jet demand remains uncertain, refineries "will have little choice but to continue maximizing kerosene blending into the diesel pool, which will contribute to the downward pressure on diesel cracks," the IEA said.

Demand for diesel in Europe is not expected to reach pre-coronavirus levels for a while -- at least until July, probably later, traders say -- because many people continue to work from home and some form of travel restrictions will remain in place until the summer.

"Demand should have bottomed out by now, and we have had decent run cuts," another diesel trader said.

REFINERY OPTIONS

In the meantime, apart from run cuts, refineries have been looking at other options to reduce diesel supply. Refineries in the US have opted to crack gasoil instead of VGO in conversion units, thus reducing the availability of diesel.

PBF CEO Tom Nimbley said last week that it is "cracking some distillate" in its refining systems.

Earlier this month, Valero officials said during a conference call that refiners have started to make "some adjustment to their operations to bring the diesel yields down," including dropping "diesel into gasoil, which will replace some VGO purchases" into the conversion units.

European traders concurred, noting that, while VGO was cheaper than gasoil, gasoil has been difficult to store.

"There is not a lot of storage for gasoil," a trader said, adding that "people would rather store end products."

While demand uptick and various techniques aimed to reduce diesel yields are helping, diesel is likely to take time before the market balances again.

"Roads are busier, France is busier this week, margins have been so poor there has been a decent amount of run cuts, arrivals are lower next month," one traders said, adding "but I think it will be a slow recovery."