Global base oil markets are under intense pressure as the threat of a worldwide recession sinks demand for lubricants amid few signs of an early respite in the coronavirus pandemic. Middle East base oil refiners’ push for a bigger piece of the API Group II and III base oil market now leaves them exposed in a global base oil supply glut, along with a drop in base oil demand and prices due to the pandemic’s economic impacts.
Fears are also growing that base oil prices, which usually track crude prices, may see steeper falls than during the previous economic slump, when base oil prices tumbled more than 60 percent between late 2008 and early 2009, according to Argus Media.
Middle East Gulf refiners that are relative newcomers to API Group II and III base oil markets seem particularly exposed to the downturn in the sector. Even before the Covid-19 outbreak, the region faced a supply glut of more than 3 million metric tons per year of Group II and III base oils, Dubai lubricant blender and base oil trader GP Global estimates. With demand in free fall, refiners confront a stark choice of either maintaining output and storing excess production, or slashing production.
Middle East Gulf refiners have aggressively pursued market share in recent years, disrupting major markets such as China and India. Earlier this month Mumbai-based Petrosil reported that the United Arab Emirates exported 38,000 tons of base oil to India in January, twice as much as the same month of 2019. But an excess of Group III stocks from the region might soon force production cuts. Conversely, Group II base oils have become interchangeable with Group I base oils as prices have narrowed between the two API grades over the last year, which is likely to support demand for Group II base oils, analysts said.
Still, a Tehran base oil executive said refiners can only go so far in scaling back production before incurring losses. “Some refiners may consider temporary capacity rationalization, but they may not economically go below 50 percent – they may be happy with a 25 percent reduction to keep stability.”
Maintaining output is increasingly problematic, as storage limitations weigh on markets and local options evaporate. Meanwhile, a run on ship charters as a result of the massive ramp-up in crude production by Saudi Arabia and others has caused a spike in freight rates at a time of falling prices, making it increasingly uneconomical to ship excess supplies overseas.
Earlier this month Fujairah in the United Arab Emirates, a de facto Middle East storage hub, said a lack of demand could leave the storage facility full in the coming weeks. At the same time, Indian Oil Corp., a major importer of base oils, declared force majeure on purchases from Saudi Arabia, the U.A.E., Iraq and Kuwait, a move that is likely to heap pressure on storage capacity. Group II prices in India fell sharply in March, by more than $110/t, fueled by news of a countrywide lockdown.
Nevertheless, individual refiners provide little indication of what strategy they will pursue to calm markets. A spokesperson for Shell told Lube Report in an email statement that the company wouldn’t comment on its demand, production volumes and storage. Shell produces Group II and III base oils at its Pearl gas-to-liquids joint venture with Qatar Petroleum in Ras Laffan, Qatar. Separately, Abu Dhabi’s Adnoc said it would not comment on storage matters. The U.A.E. refiner’s 500,000 t/y plant at Ruwais produces Group II and Group III base stocks.
And Iran, the Middle East’s largest producer of Group I base oils, is adjusting to market conditions despite the weight of sanctions. Feedstock prices fell by around 35 percent towards the end of March, allowing refiners to reduce prices to stay competitive, according to the Tehran-based executive.
“We expect further feedstock price drops in Iran as crude refineries will have no option but to convert [vacuum gas oil] large scale,” the executive said. “This may help Group I refiners offer further cuts in prices and attract demand.” Iran is battling against a rampant coronavirus outbreak, adding uncertainty whether the Islamic Republic can safeguard refining output.
Even so, base oil refiners may get some support from China, where the market is steadying amid evidence of firming demand in the world’s largest automotive market and a rapid tail-off in reports of new Covid-19 cases.
Still, base oil prices have fallen in some markets since February and in all of them during March, with the biggest declines recorded in the United States. Prices there have fallen by U.S. $170/t as major lubricant markets – including the automotive and aviation sectors – have ground to a halt.