Slow death of fuel oil gets quicker thanks to gas

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Refining margins for fuel oil look set to fall deeper into the red as traditional demand sources dry up due to fuel switching.

Sinking profit margins are particularly bad news for simple refiners, lacking the capacity to upgrade the sludgy substance to lighter transport fuels for which demand is bouncing back.

Fuel oil fundamentals have been under siege for years, especially in the developed world, because of stricter environmental legislation in shipping and power generation.

But more recently, the divergence of oil and gas prices due mainly to the abundance of new gas supplies, including shale gas, has accelerated the pace of demand substitution.

US gas futures fell below USD 4 per mmBtu this week, continuing their slide from near USD 6 at the beginning of January while crude futures hovered near 18-month highs at around USD 86 a barrel.

This trend could erode fuel oil demand for years to come and is likely to be irreversible, analysts said.

"There are very weak prices of natural gas and it looks to stay that way for a few years. This will affect the substition potential in power generation," said David Wech of JBC Energy.

And while demand is fading fast, global fuel oil supplies have risen sharply due to lower OPEC quota compliance, now around 50%, placing additional pressure on margins. Higher OPEC output consisting mainly of heavy crude grades from the Middle East boosts refinery fuel oil yields relative to other products.