An unprecedented slice of the global diesel market, the workhorse of the world economy, is just weeks away from facing aggressive sanctions.
Beginning February 5, the European Union, the G-7 and their allies will seek to cap the price of Russia’s fuel exports – the latest punishment for its invasion of Ukraine. This will coincide with an EU ban on almost all imports of Russian oil products.
Similar measures are already in place for the country’s crude oil supplies, but it’s the cap and ban on refined fuels — and diesel in particular — that has some oil market watchers worried about the potential for price spikes.
Prior to its invasion of Ukraine, Russia was Europe’s largest external supplier of fuel, and the continent continued to buy in bulk up to the cutoff. As a result, the sanctions are likely to lead to a major diversion of the world’s diesel flows – aided by Russia’s new crude buyers shipping fuel back to Europe. There is a risk of higher prices in the short term.
“The loss of Russian barrels is huge and replacing them will be a major logistical challenge,” said Keshav Lohiya, founder of consultancy Oilytics. “But the market is pricing in less panic as markets and trade flows have shown resilience. This will be a new diversion of diesel.”
The European Union has to replace about 600,000 barrels of diesel imports a day, and Russia has to find new buyers for these stocks, store the fuel on ships or curb production at its refineries.
Shipments to the EU from the US and India have already increased as they produce more than they consume, allowing them to export their surplus. China is also expected to send more fuel to its nearby markets, indirectly pushing cargo from other suppliers to Europe.
“Product flows from net-long regions will intensify as the continent’s embargo on Russian products comes into effect on February 5, which we think is exacerbating a tight diesel situation,” Bernstein analysts, including Oswald Clint, wrote in a statement to customers.
India’s role in supplying Europe is notable as it has become one of the largest buyers of cheap Russian crude since the outbreak of war.
A sharp increase in Indian diesel flows would almost guarantee that Russian crude would be bought in India and refined into diesel before being sold back to Europe.
Such a trade would not break EU rules, but it underscores the inefficiency inherent in sanctions. Essentially, hydrocarbons are transported thousands of miles farther than they would normally be — and then back again.
There is also the possibility for more opaque practices, such as re-documenting cargoes or sending fuel to refined product storage centers in other regions to be mixed with non-Russian products.
So far this winter, the worst predictions of an oil shortage have been averted. Diesel, which was the epicenter of oil market strength months ago, has eased on the back of unseasonably warm weather and an influx into Europe.
Crude oil prices eased after sanctions on Russia appeared to redirect rather than reduce exports.
Among Moscow’s new – or larger – buyers will be dealers in Africa, Latin America and possibly Asia. Europe, meanwhile, is likely to turn to the Middle East, where huge new refineries are ramping up operations.
Still, consulting firm Energy Aspects Ltd. In early January that Russia can only find a home for about a third of its diesel exports and that the rest must be shut down.
“The product embargo is the tricky one because Russia has really struggled to put its diesel anywhere other than Europe,” said Amrita Sen, the consultant’s senior oil analyst, at the Global UAE Energy Forum, hosted online by Dubai-based Gulf Intelligence was organized.
refinement problems
This comes in the context of a European refining industry preparing for a seasonal round of maintenance and also facing disruptions.
A threat of renewed strikes in France could shut down some of the country’s fuel producers a day after sanctions against Russia came into effect.
Two oil refineries in eastern Germany – which were previously supplied with Russian crude – are having to produce less fuel than usual because those inflows have been halted.
And behind all this hides a lot of logistical and technical problems that can flare up at any moment.
War insurance markets for ships calling at Russia remain in crisis after major reinsurers withdrew some of their coverage, while oil tanker costs have already skyrocketed ahead of the introduction of crude oil sanctions.
Right now there is little sign of panic in the oil markets. The key question over the coming weeks is whether enough hard work can be done to transform global diesel flows.
“The market will always solve it,” said Eugene Lindell, head of value-added products at consultancy FGE. “It’s just about how much pain it’s going to cause?”
