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APPEC analysis: Russia to lose top spot as China's main crude supplier

Highlights

Russia set to lose top spot after three years

Russian supply to China constrained by port, pipeline capacity

New wave of integrated Chinese refiners use Saudi crude as baseload

Singapore — Russia is set to lose the top spot as China's main crude supplier in the coming years to Saudi Arabia as it falls behind in ramping up its Far East exports, and as infrastructure constraints in pipeline and port capacity cap volumes, according to latest data and market sources.

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The trend underscores a slower expansion of Russia's eastern strategy even though Moscow has attempted to pivot away from Europe in its long-term energy plans, and a more aggressive expansion of state-run Saudi Aramco into its Asian customer base.

It also signals the growing problems in Russia's customer base in China -- largely Shandong-based small independent refiners -- that are impacted by narrowing margins, tough competition and weakening transportation fuel demand as the economy slows.

The dominance of Saudi crude also means that China is more exposed to the geopolitical risks of the Middle East, with greater dependency on medium sour grades at a time when the global feedstock is getting lighter.

Russia was China's top crude supplier for three straight years, growing 19.6% year on year in 2018, 13.9% in 2017 and 23.7% in 2016, China's customs data showed.

But in the first seven months of 2019, Saudi Arabia took the top spot in China's crude mix. The leading OPEC producer posted strong year-on-year growth of 46.7% to 1.55 million b/d, or 44.75 million mt, while China's crude imports from Russia grew 14% to 1.5 million b/d or 43.36 million mt over the same period.

The main driver behind the growth of Saudi crude flows will be the large integrated private refineries on China's eastern coast that have term contracts with Saudi Aramco for baseload supply. This reflects lost opportunities for US crude in China amid trade tensions, as lighter grades are better suited for petrochemical complexes.

RUSSIAN SUPPLIES HIT CEILING

Russian crude supply to Asia, and China, continue to grow as part of a strategy to diversify beyond Europe, albeit at a slower pace.

"Healthy growth [in crude supplies to China] is sustainable as we have more supplies online along with transportation capacity expansion," Otabek Karimov, Rosneft's vice president for commerce and logistics, said on the sidelines of the S&P Global Platts Asia Pacific Petroleum Conference in Singapore.

State-owned Rosneft has set up a Singapore office to gain local expertise, establish relations with governments, increase direct sales and market natural gas and refined products, Karimov said.

However, Russian pipeline and seaborne crude sales to China are plateauing.

"Russian crude shipments to China via pipeline already flow at maximum levels permitted by existing eastbound infrastructure," Grace Lee, senior analyst at Platts Analytics, said.

China is contracted to import 40 million mt of pipeline crude from Russia -- 10 million mt/year via Kazakhstan through the Atasu-Alashankou pipeline under a bilateral state agreement, and 30 million mt/year of ESPO Blend from Rosneft via the Skovorodino-Mohe pipelines to PetroChina. Both are near full capacity, according to refinery sources.

Currently, PetroChina's Dalian Petrochemical buys 13-14 million mt of ESPO via the pipelines. Its Liaoyang Petrochemical takes 7-8 million mt, Jilin Petrochemical 5-6 million mt, WEPEC about 1 million mt and the rest go to Harbin Petrochemical, Jinzhou Petrochemical and Jinxi Petrochemical, refining sources with PetroChina said.

Besides, Russian producers have been lagging behind their Middle Eastern peers in seeking new strategic buyers. In 2010, Rosneft agreed to build a 260,000 b/d refinery in northern China's Tianjin province with PetroChina, but there has been no update for several years.

Russia's seaborne spot crude exports to China include ESPO Blend loaded from Kozmino, Sokol from De-Kastri and Sakhalin Blend from Prigorodnoye, as well as Urals loaded from the Russian Black Sea port of Novorossiisk.

Urals is priced against Platts' Dated Brent, while supplies from the Far East are priced against Platts' Dubai crude assessments, allowing Russia to sell competitively.

Typically, ESPO is the most popular grade among China's small-scale independent refineries due to its specifications and geographical proximity -- 100,000 mt cargo size, five-day voyage and heavy gasoil yield.

They buy over 20 million mt/year of ESPO, accounting for about two-thirds of the total spot supplies of the grade, with the rest going to Asian countries like South Korea and Japan.

Transneft has plans to expand the ESPO-2 pipeline from Skovorodino to Kozmino to 50 million mt/year from 30 million mt/year by the end of 2019, and efforts are on to build a VLCC terminal, which should boost seaborne ESPO volumes.

Meanwhile, the Saudis have the upper hand.

Saudi Arabia's crude supplies to China's non state-owned refining sector rose to 3.53 million mt during January-August from 260,000 mt during the same period a year earlier.

It is expected to sustain this growth as around 1.72 million b/d of new Chinese refining capacity from both state-owned and independent refiners, forecast to come online in the next five years, is configured to crack Middle Eastern crudes.

-- Oceana Zhou, oceana.zhou@spglobal.com

-- Eric Yep, eric.yep@spglobal.com

-- Analyst Daisy Xu, daisy.xu@spglobal.com

-- Edited by Shashwat Pradhan, shashwat.pradhan@spglobal.com