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Saudi Arabia’s decision to cut March oil prices for Asian customers by more than expected appears to be a three-pronged move to maintain market share, boost refining margins and stave off demand destruction.
Saudi Aramco cut the official selling price (OSP) for its benchmark Arab Light grade to a premium of $1.75 a barrel over Oman/Dubai, down from $2.45 in February and lowest since July last year.
Market expectations had centered on a cut of around 30 to 60 cents, and the bigger reduction will no doubt be welcomed by Asian refiners, who take about two-thirds of Aramco’s output.
But the question is whether the Saudis have done enough, or whether the OSP is likely to be cut more in the next few months.
The real risk is that demand in Asia disappoints given slower economic growth in the region, worries over capital flight from emerging markets and the possibility of demand destruction in some of the region’s top consumers as weakening currencies boost domestic fuel prices.
India is a case in point, with retail prices rising in Asia’s second-largest oil importer as the rupee weakens.
The price of global benchmark Brent crude in rupees has retreated from last August’s record high of 8,022 rupees ($128.16) a barrel to close at 6,643 rupees on Feb. 5.
But this is still higher than the 6,304 rupees a barrel Brent cost in July 2008, when it was at a record high in dollar terms. Put another way, Brent is 5.4 percent more expensive in rupee terms now than it was in mid-2008, while in dollar terms it’s 27 percent cheaper.
India does still regulate some fuel costs, mainly diesel, but even consumers are starting to feel the impact of higher oil prices, with diesel rising to 54.91 rupees a liter at the start of this month, a gain of 15.2 percent in the past year.
India’s gasoline prices have risen 7.6 percent in the past year and by 24 percent in the past three.
The rising retail fuel prices and slower economic growth may curb India’s growth in oil imports, which rose 7.8 percent to 3.86 million barrels per day in 2013.
Cutting OSPs may allow refiners to boost margins and lower fuel costs and thus mitigate the possibility of demand destruction in economies like India.
India also illustrates another issue for the Saudis insofar as the South Asian nation is hoping to boost its imports from Iran this year as a result of the easing of tensions between the Islamic Republic and the West over Tehran’s nuclear program.
While this is still far from a certainty, any further easing of sanctions against Tehran will encourage India to increase purchases from Iran.
Last year India imported 195,000 bpd from Iran, down 38 percent from 2012, so the potential to boost volumes is there, as it is for other major Asian buyers China, Japan and South Korea.
The possibility of increased Iranian shipments and more cargoes from Iraq is also likely a factor behind the Saudi decision to cut its OSP by more than the market anticipated.
Throw into the equation more Russian oil through the ESPO pipeline and it becomes apparent that Asian refiners, while not awash in a glut of oil, certainly have more choice of suppliers currently than they have had in recent months.
This will be more the case in the next few months as many refiners across Asia undergo seasonal maintenance in the shoulder season between the peak demand periods of the northern winter and summer.
Refining margins are slowly recovering as well, with the profit from processing a barrel of Dubai crude at a complex refinery in Singapore at $6.92, up from January’s average $6.41 and above the 365-moving average of $6.34.
While not sufficiently strong to cause refiners to whoop for joy, margins are enough to ensure that runs won’t be cut because of low profitability.
But with the outlook for demand growth in Asia in the next few months muted, and prices at elevated levels in domestic currency terms in several countries, the Saudis may have to cut OSPs for a third straight month for April cargoes.
— Clyde Russell is a Reuters market analyst. The views expressed are his own.
Clyde Russell - Reuters
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