New oil war in Asia: Saudi Arabia versus Russia

Top exporter Saudi Arabia is struggling to sell more crude to Asia because rival producer Russia has taken an expanding share of the world’s fastest-growing market by pumping more oil into the region.

To get an edge in the competition with Russia and ship more barrels into Asia, the Saudis will have to take the next painful step in reducing global oil prices − slashing their own.

The kingdom has ignored opposition from fellow OPEC members and moved to boost oil supplies to cool prices that have slowed economic growth. Most of any increase in Saudi supplies would flow eastwards to feed rapid Asian economic expansion.

Russian supply to northeast Asia is almost five times more than in 2008 as crude flows through Russia’s East Siberia-Pacific Ocean (ESPO) pipeline.

“Not only will the Saudis need to amend official selling prices (OSPs) to a level that would entice refiners, but you may also see competition from alternatives,” said Harry Tchilinguirian, head of commodity markets strategy at BNP Paribas in London. “And if ESPO keeps building up, the pressure keeps on growing.”

A glut in North American crude markets has made it unprofitable to send ESPO crude to the US West Coast, leaving more supply in Asia. The US typically absorbs the surplus.

The emergency release of oil stocks by International Energy Agency members Japan and South Korea, two of the region’s top consuming nations, is adding even more oil to the market. With so much crude on offer, refiners have been reluctant to sign up to buy more from Saudi Arabia.

ESPO is also higher quality than most Saudi crude, giving refiners that lack capacity to process heavier crude little incentive to buy more Arab grades.

Oil pumped through the ESPO pipeline has changed the game in Asia, previously almost completely captive to Middle East sellers. Russia sells 300,000 barrels per day to China, while another 600,000 barrels a day can be shipped to the Pacific and on to the Americas and even Europe.

OPEC member Saudi Arabia and independent producer Russia pump almost a quarter of the globe’s crude, each holding a similar share of about 10 million barrels a day. While the Saudis have restrained output since the financial crisis with OPEC agreements, Russia’s non-alignment has allowed it to pump freely.

Russia is pumping ESPO crude directly to China through a new pipeline section that opened this year, obviating the need for some imports from Saudi Arabia. In addition, rising exports of east Siberian oil through the Russian Pacific port of Kozmino have gained acceptance among refiners in three continents.

“Saudi Arabia and Russia will always be competing for market share in most regions,” said John Vautrain, director at Purvin & Gertz energy consultants in Singapore, adding that “from a geopolitical perspective, they both have interests to supply a diversified base of customers in Europe, Asia, and the US.”

“The waterborne nature of ESPO from Kozmino is allowing Russia to target northeast Asian markets that it could not reach economically before, and it’s also better quality than most of the Saudi crude,” Mr. Vautrain said.

Five ESPO cargoes due to load in Kozmino by early August have yet to be sold, as the arbitrage to the US West Coast remains closed.

Tightness for Brent-related grades in Europe because of Libya’s civil war and wide discounts for crude priced off the Dubai benchmark, including ESPO, have created unprecedented opportunities for east Siberian cargoes to move as far away as Spain, at least on paper.

That could mean more Russian crude produced halfway round the world and priced off Dubai is shipped to fill a gap that the Saudis could not plug in the Mediterranean.

“The ESPO quality is closer to the Libyan crude,” a trading source familiar with purchases of Saudi crude said. “It’s also attractive versus crude from West Africa, which is linked to more expensive Brent.”

The discount of Dubai crude to Brent widened to $9.20 a barrel on June 15, the biggest discount since October 2004, less than a week after the Saudis signaled they would increase supplies to Asia. That discount prompted Repsol-YPF, Spain’s largest oil company, to buy a cargo of ESPO Blend.

“There may be more opportunistic purchases of ESPO Blend by European refiners subject to freight conditions,” Mr. Tchilinguirian from BNP Paribas said.

“Brent is supported by a limited spare production capacity in light quality crude and Dubai will be kept under pressure as OPEC Gulf producers try to place additional medium to heavy barrels in the market.”

The competition for market share in Asia is the latest in a long tussle between the two giants of the oil-producing world. Moscow provoked the ire of some OPEC members after failing to deliver on pledges to trim output in line with record cuts by the Organization of Petroleum Exporting Countries in late 2008.

The race between the two to conquer the Asian oil market could benefit consumers from China to the US as it puts pressure on prices just as the global economic recovery falters under the burden of high energy costs.

“There has never really been much cooperation between Russia and OPEC,” said Greg Priddy, global oil analyst at Eurasia Group in Washington. “The Saudis have never expected Russia to cooperate or share their burden as a swing producer.”