Singapore 28, July 2022: Refining margins in Asia have collapsed in recent weeks, leaving refiners on the precipice of making losses on every barrel of crude oil processed.
The question is how will refiners, crude oil producers and consumers respond to this rapid shift in market dynamics.
Refiners are likely to be tempted to cut processing rates in order to reduce the supply of refined products, thus boosting the price.
Crude oil exporters, such as Saudi Arabia, may reverse recent hikes in their official selling prices (OSPs), which were largely believed by market watchers to be related to the now-vanishing high refinery margins.
Consumers are likely to only increase demand if retail prices retreat significantly, a process that generally takes some time as the more expensive fuel has to work its way through the supply chain first.
The profit margin at a typical Singapore refinery processing Dubai crude dropped to just 83 cents a barrel on Monday, down 97.3% from the record high of $30.49 a barrel reached on June 21.
That peak was driven by several factors including strong demand for diesel and jet fuel as Asian economies recovered from the COVID-19 pandemic, the sharp decline in refined product exports from China, as well as those from Russia as Western buyers shunned cargoes after Moscow's Feb. 24 invasion of Ukraine.
But the surge to record refinery profits was largely a middle distillates story, with the Singapore margin for refining a barrel of gasoil , the building block for diesel and jet kerosene, reaching a record high of $71.69 a barrel on June 24.
It has since slipped to end at $38.54 a barrel on Monday, and while the decline looks precipitous, it's worth noting that the margin was just $8 this time last year, and $6.69 in July 2020.
However, while the profit, or crack, for making gasoil remains relatively strong, the margins on gasoline and naphtha are considerably weaker.
The profit for making a barrel of 92-RON gasoline in Singapore from Brent crude was $2.56 on Monday, a recovery from a loss of 16 cents at the end of last week, which was the lowest since May 2020, at the height of the economic slowdown caused by the initial COVID-19 outbreak.
Asia refining margins vs Brent crude
Asia refining margins vs Brent crude
Naphtha, which is mainly used to make plastics and chemicals, has been faring even worse than gasoline, with a Singapore refinery making a loss of $8.33 for every tonne produced from Brent crude.
This is an improvement from a loss of $122.53 a tonne on June 15, which was the weakest since the 2008 global financial crisis. However, it's worth noting that as recently as March 3, the profit for making a tonne of naphtha was $257.23.
The collapse in the margins for naphtha illustrate the softening of the economic outlooks across Asia, something also shown by the decline of the margin on fuel oil to a loss of $21.95 a barrel on Monday.
Fuel oil is used to power ships, and the slump in the margin from a 2022 high of a profit of $6.08 a barrel on April 27 shows that shipping demand is also slowing, as economies battle higher interest rates and surging inflation.
In the current circumstances it's likely that Asian refiners will consider cutting output in a bid to increase margins on gasoline, naphtha and fuel oil by restricting supply.
However, if this results in higher retail prices across the region, it will only exacerbate the economic slowdown and cause further loss of demand.
The other tactic for refiners is to put pressure on their crude suppliers to lower prices, but this is a far harder task to achieve.
The question for Saudi Arabia, the leading member of the OPEC+ group of exporters, is whether the loss of revenue from lower prices will ultimately be a better option than the loss of volumes from a deeper and longer economic slowdown in Asia.