Multi-year-low inventories, gradual decline in Russian exports, recovery in European and Chinese demand, and lower diesel production in Europe are, in our view, tailwinds to refining margins in CY22. US gasoline inventories have fallen sharply heading into the driving season, further aiding margins. RIL is our preferred play on the near-term refining tailwinds, while the elevated marketing losses keep us cautious on the OMCs.
Diesel inventories at multi-year lows: Diesel inventories across Europe, Singapore, and the US are at multi-year lows, creating a supply crunch benefiting cracks. The total throughput of four major European refiners was down 6% q-o-q and 3% y-o-y in the Mar-22 quarter. Diesel demand remains strong in Europe even as demand in China and India has been weak.
Diesel exports from China remain muted: Diesel exports from China at < 0.2mbpd are a fraction of the 0.7mbpd clocked during Mar-21 while diesel exports from India is range-bound too at ~ 0.6-0.7 mbpd. Shipping data suggests Russia’s refined products exports have declined only 0.2mbpd since the conflict. With recent sanctions by EU, Russian oil exports could decline sharply in H2CY22.
Diesel cracks could remain elevated: Strong demand in Europe, gradual relaxation in restrictions in China, lower refinery production in Europe, and lower Russian exports are supportive of margins in CY22. However, higher diesel exports from China and higher refinery throughput from European refiners, coupled with incremental supply from Jazan/Al Zour, could offset the shortfall in supply.
Gasoline cracks up sharply: After lagging diesel cracks initially, gasoline cracks have risen sharply. Benchmark Asian refining margins are up to ~ $23/bbl (past decade avg ~ $5.7/bbl), helped by strength in diesel and gasoline spreads.
RIL to benefit from refining margin strength: RIL is a key beneficiary of energy inflation, with every $1/bbl rise in refining margins annualised adding $400-450 mn to its Consol Ebitda. O2C Ebitda is likely to see upgrades in FY23, as refining strength continues.
Near-term outlook weak for OMCs despite strong refining margins: OMCs are currently incurring losses of `13-16/l in auto fuel marketing due to the freeze in price hikes followed by complete pass-through of the recent cut in excise duty. Indeed, with refining volumes at 50%/73%/91% of marketing volumes for HPCL/BPCL/IOCL, respectively, the near-term outlook on the earnings for OMCs looks soft.