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Global energy supply and demand. Crude oil. Power generation. Transportation. Project cots. What impacts will these big-picture drivers have on the lubricants industry?

Seemingly unrelated macroeconomic factors influence base oil and lubricant demand, production and quality,X B Co, ExxonMobils global base stock strategic planner,old the CIS 12th World Base Oils Conference in London in late February. Base stock and lubricant demand growths linked to gross domestic product and population, he demonstrated, and will vary greatly by geography and sector. Base oil is part of larger value chain that starts with crude and refining,said Cox, who i based at ExxonMobil Lubricants & Petroleum Specialties Co. headquarters in Fairfax, Va. Ultimately, the customer must see value in our products.

In his introduction,Cox stressed to the conference attendees that this presentation is not a forecast. It discuses market trends and outlooks and leaves you to make up your own mind. He then assessed some of these factors and discussed their possible impacts on base oils and lubricants.

Global Economics

Cox put the base oil market in perspective by assuming that total base oil production worldwide in 2007 was about 38 million metric tons. According to ICIS published reports, the average price was about $850 per ton, making base oils a $32 billion industry.

Compared to estimated global gross domestic product of some $47 trillion, that means base oils account for just .07 percent. We’re important, but a small part of the global economy, Cox noted.

Citing ExxonMobils 2007 Energy Outlook, Cox said that global economic output will continue to increase about 3 percent per year from 2005 to 2030.The world has become substantially more energy efficient, and will become more so over coming decades. As a result, global energy demand, which rose on average 1.8 percent per year from 1980 to 2005, will gain just 1.3 percent per year from 2005t o 2030, he said. Even with slower growth, however, Cox forecast that global energy demand will reach 325 million barrels of oil equivalents per day (mmBOE/d) by 2030, up from about 200 million in 2005.

Since 1970, world GDP has increased three-fold and motor gasoline and diesel demand has more than doubled, Cox said. With changes in the economy and more efficient use of lubricants, though, global lube demand growth has grown at a slower pace. Looking at lubricant demand growth since the 1970s, he found a tight correlation with global population growth: We know that where the economy grows and population grows, lube demand grows.

The primary energy sources that will meet the growing demand for energy are oil, gas, coal, nuclear and renewables. Supply of each category is predicted to grow at different rates, however. From 2005 to 2030,said Cox, oil supplies will grow 1.2 percent per year; gas will grow 1.7 percent per year; coal just 0.9 percent; nuclear a healthy 2 percent; and renewables 1.5 percent.

Crude Oil

Crude oil prices have risen sharply since 2004, Cox said,and have had a major impact on the global economy. This increase has been attributed to rapid demand growth, geopolitical unrest,and shortage of refining capacity, he said. But the truth is, there are probably a number of contributing factors. One thing we do know is oil is a commodity, and prices are cyclical and unpredictable. From January 1988 until January 2004, crude prices generally hovered around $20 per barrel. These days $100 per barrel is not uncommon.

Fuels refining economics are driving crude selection, and crude selection has a significant impact on base stock yields. Clean-dirty spreads – which help define the profitability of refineries converting crude to clean fuels – are currently above historical levels, Cox noted. For decades the clean-dirty spread was about $10 per barrel, but since 2004 it has spiked to the $30 to $40 per barrel range.

Likewise, crude price spreads such as the difference between North Sea low-sulfur crude and Russian medium-sulfur crude, have widened and become extremely volatile. This has an impact on base oil, Cox explained. The Russian crude would yield 40 percent less base oil than the North Sea crude. So spreads have become a big influence on crude selection for base oil plants.

Crude issues for the lubricants industry are significant, he added, as lubricant crude pricing is influenced by fuels economics and market forces. Expect to see more challenged crudes coming into the market, he said, such as condensates and tar sands, and high-TAN crudes from some newer fields.

At the same time, production will continue to decline in some existing fields, such as the North Sea. OPEC crudes will increasingly be needed for fuels, Cox said, and more Middle Eastern crudes will be refined in equity refineries, reducing volumes available to the merchant market. For example, the volume of Saudi Arabian crude available to the market could be cut in half in coming years.

The bottom line, said the ExxonMobil strategist, is that availability of good quality lube crudes may become an issue.

Hungry for Energy

Even as world energy demand rises 1.3 percent annually to 2030, different sectors will grow at different rates, Cox said.

Power generation is the largest energy-consuming sector, and will account for 40 percent of global demand by 2030; expect 1.5 percent annual demand growth.

The trend is clear, said Cox. Electricity use increases as incomes rise. To meet the worlds growing demand for electricity, substantial new capacity will be required, and building power generation facilities will require lubricants. New electrical capacity will span a number of technologies, including coal, hydro, biomass, gas, wind, nuclear and others, he said, but every aspect of generating power – from construction to materials handling to running turbines and compressors – will require lubricants.

Transportation is the fastest-growing sector, with energy demand growing at 1.7 percent annually in the period. The growth in light-duty vehicles worldwide is closely linked to personal income (GDP per person), said Cox; vehicle penetration is high in some countries, such as the United States, where it is close to 1,000 vehicles per 1,000 people. Key issues for future light-duty vehicle growth include investment in infrastructure (roads, fuels, vehicle repair and maintenance facilities); vehicle cost and availability; and environmental issues. Developing countries are expected to invest in infrastructure and vehicle production. The environment, however, is a growing concern, with some developing countries delaying the move to low-sulfur fuels, noted Cox.

Commercial transportation has a stable relationship with GDP, Cox indicated. As GDP climbs, so does this sectors energy demand. Energy demand by the commercial transport sector grew an average 2.4 percent a year from 1980 to 2005. Energy demand for heavy-duty vehicles grew most, at 3.3 percent annually, while aviation demand grew 2.4 percent, and marine demand 1.7 percent. Energy demand by the railroads declined by 3 percent per year in the period.

The industrial sector, including chemicals, heavy manufacturing and other industry, will see demand growth of 1.2 percent per year through 2030, while residential and commercial energy demand will grow more slowly, at 0.7 percent per year.

Crossing Oceans

Petroleum products are on the move, Cox noted. The United States is importing more gasoline blending components, increasingly from Europe. At the same time, there has been a significant increase in U.S. base stock exports. Last year, the latest data from the Department of Energy shows, the United States exported over 44,000 barrels per day of base stocks, while in the same period it imported more than 13,000 b/d, much of that API Group III stocks from South Korea.

Globally, over 25 percent of all base stocks are exported, a figure that rises to over 30 percent if intra-European Union movements are included, Cox said. And the volume of exports is expected to increase. China, for example, imported significant volumes in the first 11 months of 2007, including over 9,000 b/d from Singapore, nearly 4,000 b/d each from South Korea and Japan, and additional volumes from Taiwan, Russia and elsewhere. Likewise, Australia now imports about 70 percent of its base stock demand, mostly from Singapore, with the average shipment traveling about 4,000 miles.

This globalization of base oil trade is possible because freight is affordable for large, efficient base stock refiners, Cox said. Certainly, freight rates are impacted by rising fuel costs, but supply and demand have an even larger impact. With significant shipping tonnage under construction, and limited scrapping, it will be interesting to see how supply-demand balances out, Cox said. Freight is typically less than 5 to 10 percent of the published base oil price, so faraway refineries can compete around the world.

For example, he noted, freight charges to ship API Group III stocks from South Korea to the U.S. West Coast ranged from about 4 percent to 9 percent of the base stocks price, from August 2004 to February 2006. Freight rates for those South Korean stocks have since leveled off around 4 percent of the base oil price.

Capital Ideas

Another macroeconomic factor impacting the base oil and lubricants markets is the current escalation in petro-chemical project costs, said Cox. Cost increases have historically averaged less than 4 percent per year, but since 2005 have spiked to 13 percent per year, in large part because of commodity price hikes, such as steel, labor rates, and vessel fabrication costs and timing. As a result, base stock manufacturing projects reportedly have been delayed, deferred or canceled, and those that have progressed may look less economically attractive.

The crude oil trends to watch for, Cox concluded, include high, volatile and uncertain feedstock costs; fuels economics influencing crude selection and possibly reducing base stock yields; and an increase in equity refining that may possibly limit the availability of certain crudes to the merchant market.

With new power generation capacity expected, Cox sees only growth for lube demand for construction, operation and materials handling. In transportation, lube demand will follow growth in commercial markets, but growth on the light-duty side is contingent on infrastructure development.

Demand for Group I and Group II base stocks will continue due to demands for industrial marine and commercial vehicle lubes, said Cox. And finally, with rising project costs, the timing of any new base oil capacity may be uncertain and the economics challenging.

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