US shale 'forces adjustment in Saudi oil prices'
London, June 20, 2013
By John Kemp
(John Kemp is a Reuters market analyst. The views expressed are his own)
More than half of Saudi Arabia's crude exports head to refineries in China and the rest of Asia. Not a single barrel of U.S. shale oil is sent to the region because of the export ban.
Nonetheless soaring output of light sweet crudes from shales in North Dakota and Texas has already profoundly affected selling prices by displacing former imports from Nigeria, Libya and other light oil producers.
One result has been a sharp narrowing of the former pricing differential between light and heavy crudes, which has intensified problems for African light crude producers.
Prior to 2011, the marginal barrel demanded by refiners around the world was becoming progressively lighter and sweeter, while the marginal barrel offered by producers was becoming heavier and sourer, creating a record price gap between light and heavy crude oils.
Since 2011, the situation reversed. The marginal barrel demanded by refineries is heavier and sourer, while the marginal barrel offered to the market is lighter and sweeter shale oil, causing the gap to narrow.
The sharp turnaround is evident in the structure of Saudi official selling prices (OSPs). In June, the OSP for heavy Saudi crude sold to Asian refiners was just $2.70 below the price for light crude, compared with a gap of almost $6 two years ago.
Saudi Arabia exports various crude grades, each of which is a blend of output from different fields and priced separately, under a formula system of premiums and discounts linked to international benchmarks. Sales of Arab Light, Arab Medium and Arab Heavy to refiners in Asia are all benchmarked against Oman/Dubai crude and ultimately Brent.
All Saudi crudes are denser and contain more sulphur than international markers like Brent and West Texas Intermediate (WTI).
Vacuum distillation of Arab Medium and Arab Heavy leaves 60 percent heavy residues compared with just 40 percent for Brent, according to an assay published by researchers from Lukoil and Bulgaria's University of Chemical Technology and Metallurgy ("Evaluation of crude oil quality" Feb 2010).
Both Saudi crude grades contain a large share of asphaltenes and other large molecules that can't be used in gasoline, diesel and jet fuel. Vacuum residues must therefore be processed further, which is expensive, or sold at a loss for use as road cover or in marine bunker fuels and industrial boilers.
Arab Medium and Arab Heavy also contain 7 times more sulphur than Brent, and substantially more nickel and vanadium which poison (deactivate) refinery catalysts. This also makes them much more difficult and expensive to handle.
Until 2008, increasingly stringent regulations for sulphur in gasoline and diesel sent refiners chasing after light low sulphur feedstock.
At the time, all of the world's spare capacity was held by Saudi Arabia, in the form of fields that could only produce heavier and sourer oils.
The resulting squeeze on light sweet crude availability sent Arab Light to an increasing premium, while denser and sourer oils like Arab Medium and Arab Heavy were offered at discount, reflecting the greater difficulty that refining them presented.
By the middle of 2008, Arab Heavy was being offered to refiners in Asia more than $8 per barrel below Arab Light, and the gap briefly touched $10 in June.
Sharply reduced demand for all crudes amid the recession in 2009 crushed the differential. The gap began to re-emerge in 2010 and early 2011 as the global economy recovered.
Since the middle of 2011, soaring output of light sweet crudes from U.S. shale formations have saturated the light end of the market, while new refineries in Asia and the Middle East have come onstream designed to handle heavier crudes.
In 2012 the United States reported the largest one-year increase in oil production for any country on record. Almost all of this extra oil has been light and sweet from shale formations like North Dakota's Bakken and Eagle Ford in Texas.
Surging production of shale oil has backed out an equivalent amount of light sweet oil imports from Nigeria and Algeria, which are now being offered into Asia instead.
Iran's exports have been cut by sanctions, which has tightened supply at the heavy sour end of the market.
In theory, Saudi Arabia should be able to extract higher prices for its oil during third quarter, when soaring summer temperatures at home cause a peak in crude burning to meet electricity demand, and the availability of crude for export should be tightest.
Instead, this year mounting competition from rival medium-sour producer Iraq as well as light-sweet producers such as Nigeria and Algeria, has forced Saudi Arabia to offer its customers more attractive official selling prices for all crude grades in July to defend market share.
Shale is pitting Opec's Middle Eastern and African members against one another.-Reuters