The Base Oil Scenario Following the Russian Invasion of Ukraine
The Russian invasion of Ukraine has caused major upheaval and supply chain problems throughout pan-European markets, predominantly in the energy sector. But there are larger and far more extensive consequences, some of which are apparent and others that are yet to surface.
The political and economic sanctions that allied nations have imposed on Russia have attempted to stem the tide of war. But some say sanctions haven’t done enough, as Vladimir Putin has used European dependence on Russian energy supplies as a potent weapon.
It remains a fact that the Russian economy is heavily dependent on revenues from hydrocarbon exports, with such EU markets as Germany and Italy being totally reliant on gas supplies from Russia.
On Feb. 24 Russian military forces attacked Ukrainian defenses and started an offensive that has been ongoing for months. With few shows of contrition or concessions to peace talks, Russian forces tried to take the capital Kyiv quickly but were repelled by resistance from Ukrainian defenses. Russia altered tactics by withdrawing from around the capital, concentrating on establishing a corridor through the Donbas and Luhansk regions in eastern Ukraine.
This background is necessary to comprehend the dire consequences to European countries of short supplies of all hydrocarbons, base oils included.
Leaving the base oil supply scene in Ukraine out of the picture, the consequences of the invasion are being felt far and wide. At the time of the Russian invasion, Group I markets in Europe were facing a critical supply scene, with several refineries planning turnarounds for the first and second quarters of 2022 and the temporary loss of production from a major Italian Group I producer at Livorno.
These events have shortened the Group I market, and attention is moving to alternative sources of Group I. When supplies started to become restricted, some sellers declared that they could not honor supply commitments to contracted customers in the Northwestern Europe and Black Sea regions. There were delays to supplies of material that had been purchased as long ago as November 2021, with rail deliveries to Latvian and Lithuanian borders being delayed, postponed and canceled.
The reasons behind these delays and cancellations are not entirely clear. Some have suggested that the Russian rail system was ordered to divert logistics to move supplies, men and weapons to the Ukraine border. Others speculated that Russian government edicts prevented the export of what may have been strategic supplies of raw materials for military engaged in Ukraine. Postulations continue about the causes of the supply dearth, but lately a few export cargoes have been seen moving out of the Baltic region to Antwerp-Rotterdam-Amsterdam, the East Coast of the United Kingdom and other export destinations, such as Nigeria.
Prior to the invasion, several traders had started to build inventories of Baltic-sourced base oil in storage in Northwestern Europe. Although tank capabilities were limited, players anticipated that sufficient stocks were laid down to last between three to six months. This time period has now passed, and availabilities have become extremely tight.
The exception to these limitations appears to be the continuation of available material coming from Kaliningrad through the Svetly terminal, which is operated by Lukoil. However, there are no spot possibilities for Group I supplies from this source, with all available material apparently moving to contracted receivers in Europe and further afield to Singapore and South America.
Black Sea supplies of Russian material have disappeared, with receivers in Turkey always looking to supplement limited supplies of Group I from the Tupras refinery. This source has had production problems over the past year and has been unreliable in supplying sufficient Group I quantities.
At the time of writing, it had been mooted that the Turkish government is to extend sanctions on the imports of all Russian petroleum products, including base oils.
There are also supply issues for 4-centistoke Group III base oil, which was supplied to buyers in Eastern Europe from Tatneft. The cessation of supplies has increased supply pressure in the Group III markets around Europe, which were balanced before the Ukrainian invasion but have since tightened.
Group II supplies continue to be mostly available, with adequate quantities of these grades to cover requirements. However, there is less Group II material coming from the United States, where domestic supply has become a priority. Increasing demand from European blenders who are unable to tap into Group I supplies has also caused Group II supply to become tighter, with locally produced grades only able to cover existing customers.
Prices of all base oils have responded to two dynamics: The first is the lack of available material, and the second is the dramatic hikes in crude and feedstock values. Prices continue to rise.
There is another angle to events unfolding from the Ukraine invasion: the evolving attitude of several receivers and buyers of Russian base oils. Many traditional users of these products have attempted an embargo on purchasing Russian export barrels wherever possible. Some have cut back on quantities, commenting that the ultimate moves will be to wean operations from these sources.
The difficulty has been immediate access to alternative sources of Group I.
The duration of this conflict is unknown, and some parties have suggested that it may continue for months, if not years. If this is to be the case, the base oil industry within Europe and beyond may have to adjust and reform to adapt to a changing supply environment, with new sources and a change of tack to blending profiles.
Ray Masson is director of Pumacrown Ltd., a trader and broker of petroleum products in London, U.K. Send him comments or topic suggestions at pumacrown@email.com