European distillate cracks in tug-of-war with refinery margins
European middle distillate crack swaps have been falling in recent weeks as refiners increased production while meeting renewed demand for gasoline, leaving jet fuel — for which there is little interest — to weigh on the complex and pull margins back from recent highs.
Diesel, meanwhile, has been stuck in the middle of the push and pull.
The FOB ARA 10 ppm ULSD barge versus Dated Brent crack hit a three-month low of $3.74/b on June 30, while the equivalent FOB FARAG jet fuel crack sunk even lower to hit a nine-month low of $2.10/b on the same day.
Gasoline cracks, on the other hand, have gone from strength to strength since March, with the FOB AR Eurobob barge crack assessed at a three-week high of $10.03/b on June 24, a level higher than any seen throughout 2020.
Strength at the lighter end of the barrel initially supported refining margins which were near two-month highs at the beginning of June but have fallen back since. The Brent ARA Cracking Netback Margin was at a six-month low 98.5 cents/b on July 1, having been at $4.29/b on June 2, S&P Global Platts data showed.
Gasoline’s relationship to crude oil has strengthened during June and July amid a pivot to more bullish sentiment over gasoline demand within Northwest Europe and the Mediterranean.
Prompt gasoline demand has driven a steep backwardation in the paper market. The July FOB AR Eurobob barge swap was assessed at a $6.50/mt premium to the corresponding August swap July 5, up from a $3.75/mt premium a month ago.
Sources expected gasoline demand in Europe to continue rising as COVID-19 restrictions are further eased in many countries.
“Gasoline demand is looking pretty healthy, particularly in Italy and Spain,” one trader said.
The buoyant local demand has helped mitigate the impact of lackluster exports across the Atlantic Basin, with rising US Atlantic Coast gasoline inventories keeping a lid on flows.
While gasoline demand in the UK has been gradually increasing, it remained below pre-pandemic levels but the anticipated easing of COVID-19 restrictions in England July 19 could see demand rise further, sources said.
“UK gasoline demand is not quite at pre-pandemic levels yet. The Southeast is around 10% down while the rest of the country is 3%-5% down,” a trader said.
Meanwhile, strength in the wider crude oil complex has propelled outright values to multi-year highs. The front-month FOB AR Eurobob barge swap was assessed at $728.50/mt on July 6, up 1.3% on the day to its highest since Oct. 19, 2018.
Jet weighs on barrel
Despite a rise in jet fuel consumption in Europe as travel restrictions ease, jet fuel cracks have remained low, removing any incentive for refiners to increase jet yields.
Low jet yields have supported jet fuel cash differentials in Europe, which have been oscillating around a $20/mt premium to front-month ICE LSGO futures, higher than levels seen for most of 2020 but around half the typical premium before the pandemic hit.
“Refiners are not incentivized to produce any jet. There is no incentive to store jet either but we are still seeing high volume in storage,” a Europe-based jet fuel trader said.
“Europe will see some strength in coming months in term of regional demand but the trans-Atlantic, the long-haul travel rely on business travel which has not come back yet.”
Global demand for aviation fuel stood 30% below pre-pandemic levels in early June and may not recover fully for two more years, according to a study published by the International Energy Forum June 30.
According to the European Organisation for the Safety of Air Navigation (Eurocontrol), the seven-day moving average of European flight traffic July 5 was around 60.1% of 2019 traffic level for the same week, up from 54.5% on June 30.
Diesel stuck in middle
With jet weak, refiners have been increasing their production of diesel while increasing runs to meet the growing demand for gasoline.
However, the recovery in diesel demand has not been pronounced as that of gasoline, plateauing at around 90% of pre-pandemic levels since early May in most European countries, according to trader estimates.
As a result, diesel supply remains ample and is unlikely to thin until demand for jet fuel takes off. Thus, traders expect diesel prices to largely trend sideways until jet demand returns.
That sentiment has been reflected in the contango in ICE LSGO futures, with the prompt contango rangebound between $1.25/mt and $1.75/mt since early May.
One trader described the market as “treading water”, while another said: “The contango is not even worth mentioning anymore.”