Forget Iran and OPEC. There’s another issue that will keep oil prices supported for the next two years, according to Morgan Stanley’s oil outlook.
Brent crude will reach $90 a barrel by 2020 as new international shipping regulations take effect. The regulations will overhaul the types of fuels produced by refiners, the bank’s analysts said in a report.
The changes will force vessels to consume lower sulfur fuels beginning in January 2020. This will lead to a boom in demand for middle distillate products including diesel and marine gas oil, triggering the need for more crude, they said.
“We foresee a scramble for middle distillates that will drive crack spreads higher and drag oil prices with it,” wrote Morgan Stanley analysts including Martijn Rats.
Rules Add To Supply Cuts
Crude has already received a price boost due to OPEC supply cuts, geopolitical events and the U.S. decision to reimpose sanctions on Iran. The regulatory changes will add to the impact. Global benchmark Brent, which neared $80 a barrel earlier this week, is trading at the highest levels since late 2014. Futures for the January 2020 contract are at about $66.60 a barrel.
The International Maritime Organization’s rule changes will call for ships to reduce the maximum sulfur content of their fuels to 0.5%, from 3.5% in most regions currently. The goal is to curb air pollution that has been linked to respiratory diseases and acid rain. The changes are expected to create an oversupply of high-sulfur fuel oil while sparking demand for IMO-compliant products. This will put pressure on the refining industry to produce more of the latter fuels.
Middle distillate markets are already showing signs of tightness, according to Morgan Stanley.
Shale Oil Not Ideal
With the IMO ship-fuel regulations expected to boost demand by an additional 1.5 million barrels a day by 2020, traders will seek to get the right product supplies. This should boost crude prices, according to the bank. While global crude production will rise, it probably won’t increase by the 5.7 million barrels a day needed by 2020 to meet the additional demand, the analysts said.
“The last period of severe middle distillate tightness occurred in late-2007/early-2008 and arguably was the critical factor that drove up Brent prices in that period,” Rats wrote. Crude oil prices approached $150 a barrel in 2008.
U.S. oil output, now at a record, likely won’t come to the rescue. The crude pumped in America’s shale regions is light and not ideal for producing middle distillates, Morgan Stanley noted.
“We expect the crude oil market to remain undersupplied and inventories to continue to draw,” the bank said. “This will likely underpin prices.”
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