What impact will the sulphur cap have on the industry?

The January 2020 implementation of IMO’s new global sulphur cap, which reduces the sulphur content in bunker fuel from 3.5% to 0.5%, is approaching rapidly.

Torbjørn Kjus

The changes will result in a cost increase for ship operators as they move away from high sulphur, heavy fuel oil to more expensive, lower sulphur alternatives or exhaust ‘scrubbing’ systems. One thing that won’t change however is the sulphur Emission Control Areas (ECA), which retain their 0.1% sulphur limit.

Torbjørn Kjus, Chief Oil Analyst at DNB, one of the leading global shipping banks, gives his thoughts on the global sulphur cap change regarding both the fuel prices and on the use of marine exhaust gas cleaning technology, such as SOx scrubber systems.

Could you give a picture of the current state of the oil market and developments expected this year?

We started 2017 with OPEC promising to cut production and that was expected to kick in in January. The price was around $57 a barrel. But before that OPEC had already ramped up production in Q4 2016 to pretty much the highest level possible. These barrels then hit the market in Q1 2017 and there was also a huge stockpile of some 85 million barrels. We then saw prices tumble to $45 a barrel after a big sell-off. The sell-off was not fundamentally justified and we did not see an oversupply. Essentially, the paper positions were being sold off and the market was pushed lower than it should have been.

At DNB, we kept a very bullish view on the oil market, in contrast to many Wall Street banks. We maintained a price target of $60 a barrel by Q4 and actually it went above that level. We were way above the consensus, which was $50-55 a barrel.

Torbjørn Kjus

Chief Oil Analyst at DNB

In 2018 we are maintaining a neutral position and believe we will see trading at the current level – around $60 a barrel – until we go to 2020 when it will go quite a lot higher.

Why will the oil price go higher in 2020 in your opinion?

There was a lack of investment between 2014-2016 and this has not hit the market yet. The capital has not been there for the oil majors to invest, they have been borrowing money to try and maintain dividends. They applied the emergency brake on investments because they did not have the cash. In addition, the IMO’s new regulations on bunker fuel will contribute to a higher Brent price.

Why was it deemed necessary to introduce this global sulphur cap?

Pure environmental and health reasons. The shipping industry is one of the world’s biggest sources of SOx pollution due to its use of 3.5% sulphur fuel. Some studies have estimated that 50,000 premature deaths a year are related to sulphur emissions, with the incidence of respiratory problems being particularly high in densely populated areas near ports.

In your opinion, will there be a shift from the heavy fuel oil (HSFO) with the 3.5% sulphur to the lower sulphur fuel?

Most seem to be planning to use the 0.5% lower sulphur fuel oil instead of high sulphur 3.5% residual fuel requiring a scrubber solution. Assuming the 0.5% fuel will be a distillate, we believe this will lead to a squeeze on the global diesel market. Additionally, there simply won’t be enough heavy fuel upgrading units worldwide by 2020 in the global refinery system. Lead times for these refinery facilities are typically 3-5 years.

Could there be a massive rush before the global cap, with ships queuing to get scrubbers installed?

Perhaps if the gap between 0.5% fuel and the high sulphur fuel price gets too wide. But there is the problem that the capacity of the yards is limited to about 1,500 vessels a year as far as we understand. If every one of the 50,000 merchant vessels are taken out of service and put into dry-dock, it is just not possible in two years. Banks may also not be so keen to lend the $3-5 million per vessel for the equipment to companies that are already under severe financial strain.

What are the expected developments for 0.50% sulphur fuel? Will there be sufficient 0.50% and 0.10 % fuels post-2020, and will there be sufficient availability of heavy fuel for those operators choosing scrubbers?

Yes, we certainly think there will be sufficient 0.50% and 0.10 % fuels post-2020. We also think there will be more than enough heavy fuel production. Utilisation rates will go up in the refinery system to as high as they can go in 2020. This is partly because refinery maintenance will be postponed in 2020 because the refineries will see the fantastic opportunities.

What impact will the developments have on the bunker suppliers and ports?

Here we have potential problems because the bunker suppliers may choose not to hold enough high sulphur heavy fuel oil in the port, empty their tanks, and fill them with low sulphur fuels. The high sulphur heavy fuel oil could then go to other industries and, therefore, be located elsewhere.

It is a chicken and egg situation. If the bunkering companies do not see enough shipowners investing in scrubbing technology, why should they hold 3.5% high sulphur fuel oil in the port? And if the shipowners think that it is not available, then why invest in scrubbers?

Torbjørn Kjus

Chief Oil Analyst at DNB

And indeed, bunkering companies will not be allowed to sell the HSFO fuel to ships without scrubbers. There is a lot of debate about how this will be enforced but banks and insurers are not going to want to deal with shipowners cheating the regulations. I think this will be a bigger threat than just a penalty.

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