FEATURE: Crude slates shift as European refineries chase refinery margins

London — As refining margins stubbornly remain in the doldrums in Europe, oil refineries have tried to adapt to this new normal by becoming more flexible and creative in their baseload crude purchase requirements, traders said.

A few strategies have emerged, refinery sources said, which although not radical, are being pursued more actively than in the past.

One approach is refiners becoming more reactive to the pricing arbitrage between different regions, and switching quickly between North Sea, Mediterranean and other Atlantic Basin purchases. For many large systems, the ability to switch quickly is business as usual, but smaller refineries are also now pivoting their purchasing by reducing the amount of further ahead baseload buying and waiting to see what offers best value.

"Right now all [European refineries] are struggling. Margins are so bad but it's a new norm -- we're still buying because we have to," said one crude trader, adding that plants were trying to find the best value crudes depending on the region. "You used to have generic Med or NWE baskets but now you're starting to see new crudes added such as [North Sea's] Johan Sverdrup. It didn't used to come when it first arrived, and even grades like Flotta Gold [are] coming into the Med."

"When Urals has been expensive and volatile... [we switch]. We've been taking some alternative grades, West African and North Sea. And other refineries are doing the same," said a second trader.

According to S&P Global Platts trade flow software cFlow, two Aframaxes of Forties went to the Mediterranean in the week ended July 12. Market participants expect however that the flow of North Sea crude down to the Med may slow amid softening Urals, West African and WTI Midland differentials. One recent shift has been to West African crudes, in particular light sweet Nigerian grades, which are in ready supply, with at least 25 million barrels available loading in August, according to trader estimates. With the trading cycle for the month in its later stages, and Asian buying reduced, it is likely that these barrels will clear into Europe, traders said, offering refiners in the region a wealth of options to choose from.

Sweeter slates

Another strategy for refiners in the new environment is to sweeten refinery slates or blend more often, some refinery sources said. At the moment, the heavy cuts to production coming from Middle East crude producers such as Saudi Arabia and Iraq, and Russia, which make up a large percentage of the sour crude baseload in Europe, has made crude like Basrah Light or Urals an expensive prospect -- and the situation is likely to continue for the foreseeable future, they added.

Faced with the prospect of paying higher prices for heavy sour crudes over the longer term, due to a globally tighter pool as a result of the OPEC+ cuts, some are steering back toward running the more plentiful sweeter crudes as a larger percentage of their baseload grades.

"Sweeter [grades] are so much cheaper that some refineries [are willing to] give up part of their margin to buy cheaper crudes if required," a third trader, who focuses on the North Sea market, said.

Traditionally, as refineries were upgraded and able to run heavier, sourer crude, that would be beneficial to their running costs. But refinery margins are now often tighter running these grades versus lighter sweeter ones, due to the outright cost of crude. As a result the market has bucked many expectations coming into IMO 2020, the sulfur cap regulation cutting emissions on the high seas from 3.5% sulfur to 0.5%. Many expected the sourer fuel product -- that can now only be used with vessels fitted with scrubbers -- to lose a lot of its value, and its sweeter counterpart to find strength. However the opposite has unfolded -- 3.5%S fuel oil [HSFO] has found support on more limited availability as refineries pre-IMO 2020 optimized the compliant 0.5%S marine fuel [VLSFO].

But it will take time to make any type of slate switch, traders said. "When it comes to people shifting from sour to sweet, you have to look at relative value and with negative margins you have to look outside of your baseload, i.e. running Urals. It is challenging to switch though as you need to consider LP analysis, timings, laycans, etc. So, it takes time," one refinery trader said. "There is more talk than action right now [on long-term switching.]"

One shorter term change to do is to blend more often with cheaper crude such as Kazakhstan's CPC Blend, US WTI Midland or Algeria's Saharan Blend. "One of the reasons why [expensive] Urals corrected to current levels is that at some point, people who relied on sour tried to switch some of their purchasing to sweet grades, and I think in spite of the further cuts [on sour crude], demand for these went down...You can't change 100% of your diet but you can [over time] build a slate similar to a Urals look-a-like," said the second trader.