Covid-19’s impacts on lubricant markets varied due to the differences in how and when individual countries’ governments responded, while the drop in lubricant demand caused the spot market for base oils to evaporate, industry insiders said during a webinar last week.
During the June 9 webinar, Yana Wilkinson, a vice president in Kline & Co.’s energy management consulting practice, explained that 2020 requires a different approach in terms of analysis. “That’s because the limitations, constraints and impacts that we have seen so far – they’re not driven by the typical circumstances that are related to economic forces,” she noted. “They’re much more driven by constraints, limitations and policies that were imposed and measures to contain the pandemic.”
Kline estimated total demand in the United States would contract by about 10-15 percent and in Brazil, Germany and India by about 15-20 percent each, and in China by 5-10 percent. Wilkinson noted that the U.S., due to the complexity of federal versus state-driven policies in response to the pandemic, is displaying varying patterns across different states in terms of lubricant demand contraction.
She explained that the impact on lubricant demand across different sectors is a nuanced story because some subsectors showed different resilience. Examples of markets showing higher relative resilience included commercial on-road; power, especially renewables; agriculture and food; selected chemicals; selected mining, such as gold; and selected construction, such as infrastructure.
Lubricant markets experiencing higher relative impacts include automotive manufacturing and components; consumer automotive in regions under lockdown; select mining, such as coal; cement; and marine and aviation.
Wilkinson noted that the specifics will differ by country, driven by three sets of factors: domestic factors, external dependencies and the scope and scale of stimulus policy in a given country.
“Economies are primarily driven by domestic demand,” she said. “You will see that even after lockdown – different definitions of essential services and what was classified and allowed to stay open – that will dictate how different subsectors within the economy fared during the deepest impact period. While at the same time, the scope of measures the government imposed would also shape the curve in terms of depth of impact.”
She explained that a country’s pre-Covid-19 situation – whether the economy was strong or weak – will have a role to play. “All the structural imbalances that existed before will be reinforced and exposed as a result of the pandemic,” she added.
Wilkinson emphasized it’s important to consider an economy from a global standpoint as well. “A lot of the economies are very much integrated into the global supply chains,” she said. “Even if you see domestic recovery happening at an accelerated pace, it’s still not the end of the story. Because then some of the export destinations might be experiencing the impacts of the pandemic.” This makes understanding supply chain dependencies and understanding the share and destination of exports important, she added.
She pointed out that policy decisions made in different countries will prioritize different ways of spending out of pandemics. “Some governments will opt to increase consumption, such as investment in infrastructure, which will benefit sectors like construction and downstream sectors like metals,” Wilkinson said. “While other governments will choose to use other measures or other financial measures in order to help the economy. So the implication of stimulus is certainly not uniform.”
Wilkinson concluded that, “We need to be prepared for a fairly, potentially prolonged recovery with very uneven situations among different sectors in different countries.”
Ian Moncrieff, also a vice president in Kline’s energy management consulting practice, shared insights about the global base stocks market. “Obviously, when we experienced the recent drop in lubricant demand as a function of Covid-19 permeating the world, this naturally fed backwards into demand for base oils,” Moncrieff said. “The spot market essentially pretty much evaporated .... That meant that even contract customers were going back to suppliers and looking for relief.”
These impacts ended up falling back on base oil producers. Reactions included recycling or repurposing low viscosity material back into the distillate pool, he said. “We’ve seen a lot of refiners cutting run rates and doing selective shut downs,” he noted. “What the Covid-19 pandemic has done is to really raise the fundamental question in our minds about how many of these temporary shutdowns will become permanent?”
Moncrieff observed that while the industry is seeing some recovery in demand for base oil, plants are still operating at well below capacity.
“We haven’t shut down enough Group I plants yet,” Moncrieff explained. “So what’s happened is the utilization of effective capacity, or calendar day capacity, has declined, from 84 percent in 2010 to 78 percent in 2019.” He added that, assuming global lubricant demand and base oil demand will decline by the same rate, “we’re going to be reducing capacity utilization in 2020 to about 67 percent. It could be lower or be a little bit higher.”
That’s significant because the lower the capacity utilization, the lower the base oil plant operator’s profitability is, he said. “Everyone wants to keep their plant running, nobody wants to have it idle,” Moncrieff noted.
The global base oil market is still in need of further capacity rationalization, he said. He noted that, excluding rerefineries, about 10 recent shutdowns of Group I plants have occurred over the last several months. “Some of those shutdowns may become permanent,” Moncrieff said. “Others may not. We need at least another 70,000 barrels per day of Group I capacity to shut down, even if we recover to 2019 levels of lubricant demand.”
He emphasized that the base oil industry remains structurally long on capacity. “There is no need for new capacity under almost any circumstances for the next several years,” Moncrieff asserted. “The reality is that we’re very long in this industry, and that’s going to continue.”