The fundamental backdrop in distillates continues to be coloured with rising freight costs in Europe and Asia amid the ongoing conflict in the Red Sea. Stirring this ocean of uncertainty further is news of Russian refineries hit by fires and drone attacks over the past week. On the back of these concerns, the prompt E/W broke through previous ranges and fell to the -$43/mt handles by Jan 25.
All about the arb
Europe’s gasoil demand was primarily met through Russian barrels until the EU’s embargo on Russian oil products in Feb 2023. Since then, gasoil from Asia has played a pivotal role in replacing these lost Russian barrels with India becoming Europe’s largest supplier of refined fuels in April 2023. With that in mind, the gasoil E/W’s tumble down displays the fears of a shut arb bringing worries of a supply shortage in Europe.
Analysing these fears, the first supply bottleneck comes from rising freight costs. The increasing geopolitical tensions have undoubtedly increased shipping times with shippers opting to reroute around the Cape of Good Hope instead of travelling via the Suez Canal and Bab el-Mandeb strait. The alternative route adds around 10 additional days to the trip – making it costlier for these shippers.
These disruptions have already impacted exports from India – which has not loaded any refined product cargoes in January for delivery to Europe. Instead, India’s Jan loadings have been directed to other regions in Asia with overall Asian imports from India recording a 24% rise in January compared to 19% in December. Exacerbating this is European gasoil from the Middle East where reduced incentives for arbitrage led to a decline in AG exports globally, but especially in Europe. Over rising freight amid the Red Sea tensions, AG Europe-bound loadings were down 55% from last month in January at under 270kbbls per day. In response to this tightness, European gasoil buyers may look towards North America, another important supplier of gasoil to Europe. However, with the US planning heavy maintenance schedules for February, markets may anticipate a further slowdown in transatlantic flows.
How serious are these concerns of a supply shortage of gasoil in Europe?
Demand for middle distillates in Europe remains lacklustre amid the warmer-than-average winter despite the brief cold snap over the past fortnight. However, gasoil inventories in the ARA region currently sit on the lower end of historical ranges. With supply disruptions arising out of Asia as well as North America, market participants may expect a tight situation in Europe over the next few months.
What does this mean for future price action in European gasoil?
This supply tightness is likely exacerbated by volatility amid the risk premia arising from the tensions in the Red Sea and the attacks on Russian refinery infrastructure. Looking at CFTC data for the week to Jan 16, money managers were observed increasing both their long and short positions in the prompt ICE LS gasoil by 10.7% and 8%, respectively. This change marked the second consecutive week of added long and short risk in the gasoil futures, albeit with bullish interest being relatively larger this week.
In line with this, the Mar ICE gasoil crack accordingly saw stronger price action moving from levels below $23/bbl on Jan 08 to ultimately rising to the $27.50/bbl handles on Jan 24. At these levels, prices remain well within neutral territory based on the Bollinger bands – allowing for further room for upward traction. Finally, the MACD line remains far above the Signal line and continues to point upwards – highlighting the strength of the current upward momentum prices are enjoying. Coupling this alongside the tightening fundamentals, we expect the ICE LS gasoil to remain supported over the next coming weeks.
