Making Waves: The Final Countdown To Imo 2020

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MAKING WAVES
THE FINAL COUNTDOWN TO IMO 2020
April 2018
Rick Joswick
Gary Greenstein
Ken Bogden
Chris Midgley
MAKING WAVES
THE FINAL COUNTDOWN TO IMO 2020
April 2018
Tighter specs for marine fuels will substantially affect shipping, refining, prices, and trade. There will also be
significant ripple effects in other industries. Total global impact will be in excess of $1 trillion over five years.
SUMMARY
The implementation date for the IMO’s reduction in global sulfur THE IMO 2020 BUNKER FUEL SPEC CHANGES WILL FORCE 3 MMB/D OF HSFO
specifications to 0.5% is less than two years away and preparations are TO SWITCH TO LSFO AND DISTILLATES
far from complete. Changes will begin in mid-2019 and will be disruptive
Global Bunker Demand, MMB/D
and even chaotic at times in 2020 but most of the price changes will 8
subsequently ease and be largely gone by 2025. However, the net effect
7
will be to temporarily increase most light product prices and freight LNG
costs with a net transfer in excess of $1 trillion over 5 years from 6
consumers to refiners, sweet crude producers, and others. The 5 Distillates

magnitude and breadth of these changes are probably not yet 4 0.5% S
understood by global economists/government bodies. LSFO and
Blends
3 Dist for Blending
The spec change will require a major shift in the blendstocks used for 2 LS HFO
bunker fuels, initially creating a huge disposition issue for 3 MMB/D of
1
high sulfur fuel oil (HSFO). That volume will be replaced by marine gasoil
High Sulfur Residual Fuel Oil
and various low sulfur blends of gasoil/residuals. Alternative solutions 0
2010 2015 2020 2025 2030
for the shipping industry, such as exhaust gas scrubbers, LNG bunkers, No content below the line
or waivers/non-compliance, will only be used by a small percentage of  Assumes global shift implemented in 2020 with minimal cheating/ lags Platts
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the fleet in 2020 (~15% by weight). Prices for marine gasoil and the new Data color order: Complimentary colors: Footer : Never change the footer text on individual slides. Change, turn on or off
blended fuel are expected to rise sharply, while HSFO will fall.
More broadly, relatively expensive steps will be required throughout the HIGH MARGINAL COST STEPS WILL BE NEEDED TO BALANCE IN 2020 BUT
INCREASED SCRUBBERS, CONVERSION, AND SEGREGATION WILL REDUCE
refining circuit to rebalance products, resulting in much wider price BUNKER PRICES OVER TIME
spreads for all middle distillates versus fuel oil. At times in 2020, the 4500
MB/D
refining circuit will most likely need to run additional crude to make $50-70 Spread
4000
sufficient compliant marine fuel but will not have the capability to HFO Burn
3500
completely “destroy” the surplus high sulfur fuels. This will drive high
HFO to Storage
sulfur residual prices low enough to be competitive for burning in power 3000
$30-50 Spread
generation on the margin. Diesel and jet cracks will soar. Gasoline 2500 Refinery
Operations
cracks will also be driven higher. The price of the new 0.5% sulfur fuel 2000
Planned
will initially be close to marine gasoil. Refinery operations and 1500 Under $30 Gasoil-HFO Spread Conversion
crude/product trade flows will change. 1000

Waivers/Non
Compliance
Scrubbers in Use
However, all these initial price effects will dissipate over the following 500
few years as refinery conversion capacity expands and ships add 0
scrubbers. No content below the line

-500
Key implications include:

Platts
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 Higher crude runs in 2020, a broader set of refineries seeking light-sweet crude, and likely bullish market sentiment for sweet crude will
Data color order: Complimentary colors: Footer : Never change the footer text on individual slides. Change, turn on or off
drive overall prices higher. Our outlook conservatively assumes an average $7/Bbl Brent price increase in 2020 above baseline trends.
globaloil.pira@spglobal.com
MAKING WAVES APRIL 2018
 Middle distillate cracks increase from ~$15/Bbl currently to $30- THE GASOIL-FUEL OIL SPREAD WILL WIDEN AS DISTILLATE DEMAND
40/Bbl in 2020 before declining to $20/Bbl by 2022-23. Gasoline SUPPORTS GASOIL WHILE HSFO DECLINES TO COMPETE INTO POWER
cracks will spike somewhat less, increasing by roughly $10-15/Bbl. GENERATION
HSFO cracks will fall by $25-30/Bbl and HSFO absolute price levels Gasoil- Hs Fuel Oil, $/BBL NWE - Rebalance via Refinery Ops
80
may approach $20-30/Bbl at times to compete into power NWE - HFO Burn Needed
generation. 70
 Clean-dirty product spreads will widen from under $30 currently to 60
at least $50/Bbl driven by marginal refinery economics. At times, 50
spreads will likely widen even more towards $70/Bbl when HSFO 40
disposal requires pricing into power generation.
30
 These changes will begin in mid-2019 as refiners build distillate and 20

Bunker Specs
Shift Demand
LSFO inventory while reducing HSFO stocks. Markets will anticipate
the transition and prompt prices will begin to move in 2H19. But full 10
impacts will not occur until 2020 as a variety of accommodation No content below the line
0
1995 2000 2005 2010 2015 2020 2025 2030 2035
steps will progressively kick in, slowing the price change. Platts
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 Forward market curves have been slow to react to the growing Data color order: Complimentary colors: Footer : Never change the footer text on individual slides. Change, turn on or off
consensus among refiners that spreads will widen dramatically. LOW SULFUR BUNKERS WILL INITIALLY PRICE UP TOWARDS MARINE GASOIL
While HFO futures decline significantly in late 2019-2020, they do (MGO), BEFORE SETTLING CLOSER TO AN MGO/LSFO BLEND VALUE
not fall far enough in our opinion. Furthermore, gasoil/diesel
futures do not show any significant increase in gasoil in 2020. DIFFERENTIAL VERSUS HIGH SULFUR BUNKERS
$/Ton
600
 Crude quality differentials will widen dramatically. Heavy, high

500
sulfur crudes will see lingering weakness even as lighter products MGO
start to ease post 2020. Refineries with deep conversion will see 400 0.5% S Blends
very strong margins as crude discounts persist. MGO/HSFO 90/10

Blend
300
 Medium conversion refiners will also see substantial margin 0.5% S Bunker
Outlook
improvement, especially in 2020. 200
MGO/LSFO 60/40
Blend
 Reforming margins/utilization should strengthen due to higher 100
gasoline cracks and lower gasoline production from FCC. This will
also pull up naphtha prices. This shifts petrochemical feed No content below the line
0
2010 2015 2020 2025
preferences towards LPG. Lower FCC severity and lighter petchem Basis: Singapore Bunker Market
Platts
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feeds will tend to reduce propylene supply implying a greater drive Data color order: Complimentary colors: Footer : Never change the footer text on individual slides. Change, turn on or off
for PDH utilization all else being equal.
 Trade will shift with the HSFO arbitrage from the West to Asia shutting down as refineries maximize resid destruction. Conversely, East
Asia will become short middle distillates and low sulfur residuals. That will pull low sulfur crude east and help retain Middle East/Indian
distillate exports in the region.
 Bunker costs for MGO will increase from $200/ton above HSFO to a peak premium of over $500/ton in 2020 before easing. Prices for
0.5% residual blend fuels will be bounded by blending economics of low sulfur residuals and gasoil. They will initially approach MGO but
will decline to under $200/ton premium over HSFO longer term.
 Higher freight costs (e.g., $1-1.50/Bbl for long-haul crude) will widen all inter-regional oil arbs. Freight costs for dry bulk and container
ships will similarly increase, affecting arbitrage relationships for other commodities. The cost of all waterborne imports will increase.
 With moderately stronger Brent prices but substantially higher light product cracks, retail prices will increase on the order of 45
cents/gallon for gasoline and 70 cents/gallon for diesel. Retail prices of HSFO and asphalt will decline.
o Applying these price changes to global demand volumes results in some truly astounding numbers: the net direct cost of the spec
change will be in excess of $500 billion in 2020 and over $1 trillion over 5 years. Those costs will in effect be transferred from
consumers to global refiners. Other revenue changes include lower prices paid to heavy-sour crude producers and higher prices to
lighter-sweeter producers.
o Using typical elasticities for demand growth with respect to price, but ignoring any potential macroeconomic impacts to the global
economy, demand growth for gasoline should be weaker by 0.7-0.8% in 2020, all else being equal. For diesel, elasticities are
generally lower implying 0.2-0.4% lower demand growth onshore. For jet fuel, taxes are lower and elasticities are fairly high,
implying perhaps 0.6-0.8% demand impact. These demand losses total 0.4-0.5 MMB/D, roughly offsetting the increases due to
higher HSFO use in power generation/storage, and will ultimately help to alleviate some of the tension in the market after 2020.
© 2018 S&P Global Platts, a division of S&P Global Inc. All rights reserved. 2
CONTENTS
SUMMARY: ....................................................................................................................................................................................................1
BACKGROUND ............................................................................................................................................................................................. 4
BUNKER DEMAND IS SUBSTANTIAL AND GROWTH WILL CONTINUE AT HEALTHY LEVELS (2-3%)..................................................... 6
SHIPPERS HAVE MULTIPLE OPTIONS FOR COMPLIANCE ........................................................................................................................ 7

SCRUBBER INSTALLATIONS SHOULD EVENTUALLY RESTORE SUBSTANTIAL RSFO DEMAND ........................................................... 7
LNG BUNKERS GROWING BUT WILL ONLY CAPTURE A SMALL SHARE OF THE BUNKER MARKET ...................................................... 9
BUNKER DEMAND OUTLOOK ................................................................................................................................................................... 10

IMPLEMENTATION ISSUES ASSOCIATED WITH LOW SULFUR BUNKER FUELS ..................................................................................... 11
DISPOSAL OF EXCESS HIGH SULFUR RESIDUAL FUEL OIL WILL BE A MAJOR ISSUE FOR REFINING ..................................................12
GLOBAL CRUDE QUALITY GETTING LIGHTER/SWEETER HELPS, BUT NOT ENOUGH BY ITSELF FOR 2020....................................... 13
NEW REFINERY CAPACITY HELPS, BUT NOT ENOUGH BY ITSELF FOR 2020 ....................................................................................... 14
STEPS BY REFINING AND THE BROADER INDUSTRY TO CLOSE THE BALANCE IN 2020......................................................................15
COMPLIANT BUNKER FUELS WILL VARY IN COMPOSITION AND COME FROM MULTIPLE SOURCES .................................................. 18
OUTLOOK AFTER 2020 IS MORE MANAGEABLE ..................................................................................................................................... 18
IMPLICATIONS FOR PRODUCT PRICES AND CRUDE DIFFERENTIALS ................................................................................................... 19
IMPLICATIONS FOR BRENT PRICE LEVEL ................................................................................................................................................ 23
2019 WILL BE A YEAR OF TRANSITION .................................................................................................................................................... 24
COMPARISON VERSUS THE FORWARD CURVE ...................................................................................................................................... 25
REGIONAL DIFFERENCES WILL CHANGE EAST-WEST ARBS FOR HFO AND GASOIL ........................................................................... 26
HIGHER COSTS FOR SHIPPING .................................................................................................................................................................28
RIPPLE EFFECTS IN THE ENERGY AND SHIPPING SECTORS .................................................................................................................28
PRICE ASSESSMENT PLANS FOR BUNKER FUELS .................................................................................................................................30
BACKGROUND
The International Maritime Organization (IMO) regulates international shipping including its safety, prevention of water pollution, and the
exhaust emissions from ships. Composed of representatives from nearly all seafaring countries, it passed regulations in 2008 that reduced
the allowable sulfur emissions from ships. The purpose was twofold: to protect human health as ships are a major source of sulfur pollution
for coastal cities – a known health hazard, and the protection of the broader global environment. Working with individual countries, Emission
Control Area (ECA’s) were designated near shore in some areas where ships are only allowed to use low sulfur fuels (or exhaust scrubbers).
The IMO also set in motion regulations designed to lower sulfur emissions on the open oceans globally. The levels were initially set at a
maximum of 3.5% with minimal disruption/cost. The much more challenging change will occur on January 1, 2020 when the maximum
allowable sulfur level will drop to 0.5%. This implementation date was initially selected back in 2008. However, it was subject to a review of
technical feasibility (i.e., the ability of the refining industry to provide sufficient supplies), leaving open the possibility that it could be delayed
to 2025.
The implementation date was finally selected as 2020 at the Marine Environmental Protection Committee’s 70th meeting (i.e., MEPC 70) held
October 24-28, 2016. There was much debate at the meeting focused on a 2016 study commissioned by the IMO to assess the ability of the
refining sector to produce the higher quality fuel. That study, which was led by Netherlands-based CE Delft, concluded that the refining
sector has the capability to supply sufficient quantities of compliant low sulfur marine fuels while also meeting all other demands in non-
marine sectors. The study strictly focused on the availability of distillate/residual based fuels without addressing any price implications.
Also of note was that the decision for 2020 was made only 3 years and 2 months ahead of its implementation date which is too short a time
for substantial refinery investment to be approved/built/started up. The prior lack of date certainty inevitably led to delays in investment and
correspondingly increased the challenges facing the industry in 2020.
While there is still considerable debate on the readiness of the refining and bunkering industries to produce and deliver compliant fuels, no
further studies are planned by the IMO and it is unlikely that the start date will be deferred. While the IMO has acknowledged that additional
work is needed, their efforts are now focused on transition and enforcement issues. Enforcement measures that assure a fair playing field
are critical to the success and credibility of this effort. Overall, S&P Global Platts expects that:
 IMO 2020 spec changes will happen.
 Non-compliance and waivers will likely have only a small impact on high sulfur bunker demand in 2020 and even that will diminish over
time.
Currently, enforcement rules and penalties are up to the individual member states and flag states. Although there are no IMO global enforcing
mechanisms, and there is some perhaps justified skepticism that enforcement by “flags of convenience” states may be lax, there are other
mechanisms which are either existing or being proposed that will substantively aid compliance:
 Large, responsible companies, which account for the vast majority of the volume of fuel used, will be unlikely to flout international
regulations as a matter of policy and for preservation of their own reputation;
 Non-compliant ships are likely to be black-listed by large companies under already strict policies on safety and environment;
 Vessels will be required to maintain a log of the fuels used (beginning in 2019) under existing rules. These could be reviewed by
harbormasters in ports and thus could subject ships to regulation (e.g., they could be denied use of the port if the port country chose to
act);
 There is a proposal before the IMO that would make it a violation to deliver non-compliant fuel into a ship without scrubbers for bunker
use on that ship. That would shift enforcement from the vessel’s flag state to the port where bunkering is occurring. It was
recommended by the IMO’s pollution prevention sub-committee on Feb 9th 2018 and will be considered by the IMO’s environment
committee in April 2018. After then, it will go to the MEPC 73 meeting in October 2018 for final approval. If enacted as expected by the
IMO, it would come into force on March 1st 2020 and would be a powerful enforcement mechanism as bunker sales are concentrated in
only a few major ports;
 Some marine insurance companies have floated the idea that insurance might be denied to non-compliant ships. Although that has not
yet been written into policies (and it may not), the mere threat of loss of insurance is a powerful deterrent to cheating.
Another way to look at the compliance question is to examine the issue by ship size. Of the roughly 80,000 vessels in the global fleet, the
largest vessels account for the vast majority of the bunkers consumed. Those vessels are much more likely to comply as they are owned by
large companies and trade between major ports. On the other end of the spectrum, there are a large number of small vessels (coastal
freighters, fishing fleet, harbor craft, etc.) Most of these already use MAJORITY OF HFO BUNKER DEMAND IS FROM A LIMITED NUMBER OF LARGE
diesel. Of the ones that use residual fuels, one could argue that SHIPS WHICH ARE LIKELY TO COMPLY, WHILE NON-COMPLIANCE IS MORE
LIKELY FOR SMALLER SHIPS
compliance might be lower in that population. However, those vessels
consume a much smaller amount of bunkers. So, even if 20-30% of the HFO BUNKER DEMAND
number of vessels do not use compliant fuels, the volumetric impact 5000 MB/D
will be small, perhaps a few percent of demand.

4000
Overall, we expect that the vast majority of shipping companies will 5%

85%
strive to meet this new requirement, which will result in the need to 3000
replace approximately 3 MMB/D of high sulfur bunkers with lower sulfur

material. That said, our 2020 balances reflect the assumption that 2000
25% 30%
approximately 4% of bunker demand (240 MB/D) will be HS bunkers in
ships without scrubbers because of waivers and non-compliance. But 1000
this is expected to diminish over time as alternative measures (i.e.,
scrubbers) are adopted more widely and the effectiveness of 0
0 10000 20000 30000 40000 50000 60000 70000 80000
enforcement measures improves. As discussed later in this report, the
No content below the line
Platts
Number of Ships
magnitude of the bunker change is sufficiently large (over 3 MMB/D)
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that even if there were higher levels of cheating, it would not Data color order: Complimentary colors: Footer : Never change the footer text on individual slides. Change, turn on or off
substantially affect the conclusions of this study. The broad implications for prices, the bunker industry, and refining would be essentially
similar.
There are a number of additional efforts by the IMO that are underway and expected to be concluded in 2018 or early in 2019. Goals and
objectives of these efforts include:
 Development of verification and control mechanisms and other actions that are necessary to ensure a fair playing field and consistent
implementation;
 Development of a standardized system for reporting non-availability of compliant fuels that may be used to provide evidence to port
authorities that a ship was unable to obtain fuels which meet the new standards and thus was eligible for an exemption;
 Developing guidance, as appropriate, on mechanisms and tests to assist member states and stakeholders to develop procedures for
measuring the sulfur content of fuels;
 Encouraging the development of industry standards (i.e. ISO specifications) for the new fuel;
o ISO has initiated the process to develop a Publically Available Specification (PAS) as an interim solution that will provide detailed
guidance to fuel suppliers and users on key identified fuel characteristics/aspects such as stability/compatibility, cold flow
properties (wax precipitation), etc.;
o It will present information about the PAS to the IMO in the spring of 2019. But this information is likely just to be a "framework" for the
PAS without the full details, with the full PAS expected to be published only by late 2019.
 Technical studies of the impact on fuel and machinery systems that may result from the use of fuel oils with a 0.5% sulfur limit and lower
viscosity including safety implications;
 Identification of preparatory and transitional issues that may arise with the shift.
Bunker Demand is Substantial and Growth Will Continue at Healthy Levels (2-3%)
Bunker demand growth is related to growth in waterborne trade and thus to global economic growth. Historically, global trade grew more
rapidly than GDP, fueling rapid demand growth for bunkers. But that relationship has changed somewhat as China and other emerging
economies now rely less on infrastructure expansion and export growth while dedicating more resources to domestic consumption and
services. The growth in trade is now much closer to the rate of GDP growth.
Overlaying these trade trends on top of global economic trends along with vessel fleet economic speed rates results in some rather uneven
performance in bunker demand growth. Over 2005-2010, demand grew by 3.1% annually on average driven by an expansion of global trade of
4% as GDP expanded at 3.4% even with the "Great Recession."
BUNKER DEMAND CONTINUES TO GROW WITH GLOBAL ECONOMIC ACTIVITY AS
WATERBORNE TRADE INCREASES
But from 2010-2015, bunker demand grew by only 1.3%/yr. The primary
reason for the change was a slowdown of the global fleet which Percent Growth
increased fuel efficiency per ton-mile. The root cause was that the 8
GDP Growth Global Trade Growth Fleet Capacity Growth Bunker Demand Growth
global fleet expanded nearly twice as fast as waterborne trade, causing 7
an excess of tonnage capacity in most shipping sectors and depressing
6
shipping rates, especially in the dry bulk/container sectors. As a
consequence, fleet operators reduced vessel speeds as a way to cut 5
costs by conserving fuel. This caused a significant slowing in bunker 4

demand growth.
3
But looking forward, we expect bunker demand growth to increase 2

closer to historic levels as the one-time impacts of fleet slowdown have
1
already been achieved. With global GDP and waterborne trade currently
robust and expected to remain over 3% on average to 2025, bunker No content below the line 0
2005-2010 2010-2015 2015-2020 2020-2025
demand growth should average 2.5-2.75% annually. Platts
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We estimate that overall bunker consumption in 2020 will amount to BUNKER DEMAND IS CONCENTRATED IN LARGER VESSELS: CONTAINER
some 300 million tons/year by a fleet count of some 80,000 vessels. Of SHIPS, OIL TANKERS, AND DRY BULK CARRIERS
that amount, approximately 60% of overall bunker usage and a much
larger percentage of heavy fuel oil bunker usage, will be by vessels in BUNKER CONSUMPTION % OF BUNKER DEMAND
the tanker, dry bulk and container sectors. As already noted, these 350
MM of tons/year
ships account for only a relatively small percentage of the number of

300
vessels in the fleet, but because of their size, they use the majority of Ferries
the fuel. Container ships in particular, because of their larger engines, 250 Cruise 22.0%
27.7%
high design speeds and longer itineraries, consume a disproportionately Other
200
large amount of bunkers. LNG/LPG
4.5% 19.0%
150 Dry Bulk 3.7%
This is important, as discussed later, because the number of scrubber Oil Tankers
5.2%
17.8%
installations is expected to increase in larger ships allowing for higher 100
Container
use of higher sulfur fuels in the years after 2020. But the initial use of 50
scrubbers so far has been concentrated in smaller vessels such as
ferries and cruise vessels operating largely in emission control areas in
0
Platts
Europe, and account for only a very small portion of overall bunker
Colors:
Source: 2014 IMO GHG Study
demand. Data color order: Complimentary colors: Footer : Never change the footer text on individual slides. Change, turn on or off
Shippers Have Multiple Options for Compliance

There are multiple options for complying with the new IMO bunker standards in 2020:
1. Purchase/use compliant fuels
2. Invest in scrubbers
3. Invest in Dual Fuel engines capable of burning LNG or liquid fuels
4. Seek waivers or disregard new standard
Shippers can forego additional capital investments and purchase compliant fuels at a higher price. Compliant fuels could be either marine
gasoil or new 0.5% sulfur residual based blends. Given the uncertainty in market prices and spreads for bunker fuels in 2020 and later years,
this may be an attractive option compared with capital investment, especially for older vessels with limited service lives.
Alternatively, shippers can continue to use high sulfur fuels if they invest in stack-gas scrubber systems which remove sulfur from exhaust
gases. But so far, the installation of scrubbers has proceeded very slowly with just 460 scrubbers currently installed or on order as of early
April 2018. A third option is to invest in dual fuel engines capable of burning LNG or liquid fuels. LNG eliminates sulfur emissions and has the
added advantage of moderately reducing GHG emissions while cutting NOx emissions by 85%. But, the infrastructure for supplying LNG
bunkers is not yet in place, the capital costs are very high and it is unlikely that limits on carbon from shipping and/or mechanisms for carbon
pricing will be in place until the latter half of the next decade if then.
Financial constraints are also a factor, especially for companies in more distressed shipping sectors (i.e. dry bulk/container). There is no
immediate investment return for installing scrubbers ahead of the specification change in 2020 unless the vessel is operating largely in an
emission control area.
Finally, shippers can disregard the new standard or seek waivers if compliant bunker fuels are not readily available.
Scrubber Installations Should Eventually Restore Substantial RSFO Demand

One key factor in assessing the ability of the refining sector to meet the OUTSIDE OF ECAS AND CRUISE SHIPS, SCRUBBER INSTALLATIONS HAVE
demand for bunker fuels after 2020 is the magnitude of residual BEEN SLOW TO DEVELOP SO FAR
demand for HSFO from vessel operators that have installed exhaust gas
# VESSELS WITH SCRUBBERS INSTALLED OR ON ORDER
cleaning systems (EGCS or scrubbers). So far, uptake has been slower
than expected given the expected economic incentives. The majority of 140
Mainly ECAs
the installations so far has been on ferries, cruise ships, and other 120
1%
vessels operating largely in Emission Control Areas (ECA’s). As already Penetration
noted, S&P Global Platts Analytics estimates that only about 460 100
---------------------------------------<1.0%----------------------------------
vessels have installed/ordered scrubbers from 17 different vendors as of 80
early April 2018. Those scrubbers should account for 75-80 MB/D of HFO 10%
60
demand (2% of global totals). A wait-and-see attitude has been
prevalent in the major shipping sectors due partly to a relatively difficult 40
financial environment for shippers. Some fleet operators are looking for 20
greater clarity on carbon regulations which would favor LNG
0
(moderately) or are concerned about the slightly lower efficiency when No content below the line
Ferries Cruise Ship Bulk Carrier Chemical/Oil Container LPG/Gas Other
Tanker Carrier
running a scrubber (minimal). Others are just hoping for delays in As of Jan. 2018 Platts
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enactment which we consider very unlikely. Nevertheless, we expect

the pace of installations to pick up as the deadline approaches.
The IMO study base case conducted in 2016 assumed that by January 1, 2020 scrubbers will be installed on 3,800 vessels consuming 36
million tons/year (630 MB/D) of 3.5% sulfur fuel, representing an 11.3% share of the global marine fuels market. This equates to roughly 26
tons per day of added HSFO demand per vessel installation. The IMO analysis also assumed that there would only be a limited uptake of
scrubber installations before 2018, since early installation would imply no investment return for up to two years. That said, given the current
slow pace of installation, the IMO’s 2020 target seems high. Our Reference Case assumes that scrubbers are installed on just 1,700 vessels by
2020. But after 2020, with greater clarity on availability and more certainty on price spreads, we expect scrubber installations will increase
with 8,200 installations by 2025 and 13,000 by 2030 translating to high sulfur bunker demand of ~1.4 MMB/D and 2.0 MMB/D respectively.
The incentives for installing scrubbers look fairly compelling at the HSFO DEMAND WILL PROGRESSIVELY RECOVER AS SHIPS ADD SCRUBBERS
market spreads we expect between HSFO and 0.5% sulfur fuel in 2020 OVER THE NEXT 10 YEARS
(i.e., $400-500/ton). A typical Aframax vessel consuming 13,000 tons of
fuel per year, for example, would save roughly $5.5 million in fuel costs S&P Assumed Scrubbers, # Vessels IMO Base Case IMO Low Case HS Bunker Volume, MB/D
after reflecting the added costs of operating the scrubber. The costs for 14,000 4,000
installing a scrubber, including vessel downtime, on an Aframax vessel 12,000 Before After Spec
3,500
Number of Scrubbers Installed

are approximately $4.5 million, so these costs could be recovered in Spec Change
Bunker Volume, MB/D

3,000
10,000 Change
less than a year at the projected 2020 spreads. 2,500
8,000
2,000
Scrubber costs vary depending on the size of the engine and the type of 6,000
1,500
system installed. Design options include open loop systems, which use
4,000
sea water as the scrubbing agent and are suitable while operating in the 1,000
open ocean, closed loop systems which capture scrubber effluent and 2,000 500
can be used in more restrictive port areas, and hybrid systems which 0 0
can operate in either mode. For example, the cost range for retrofits on
a product tanker range from $1.6 MM to $3.5 MM while system costs on
Note: continued HFO growth reflects new ships being equipped with scrubbers and overall bunker Platts
demand growth (~1 MMB/D over 10 years)
a VLCC can vary from $3.5 MM to $5.7 MM. For new vessels, the
Colors:
installation costs are lower. Scrubber system prices could escalate Data color order: Complimentary colors: Footer : Never change the footer text on individual slides. Change, turn on or off
rapidly between now and 2020 if a large number of operators look to install scrubbers ahead of the IMO deadline as fabrication and
installation capacity could become strained.
Scrubber incentives are, of course, chiefly a function of the cost difference between the bunker fuel grades. As already noted, they are quite
attractive at our projected spreads for 2020. Using current futures prices which have only recently started to show a substantial impact in
2020, the economics are still quite favorable. But if spreads were to sharply narrow post 2020 or scrubber costs were to escalate, scrubber
economics would be more challenged. At current spreads near $200/Ton, the payback period is around two years. At $100/ton (e.g., 2016
levels), payback periods are up near four years. Such considerations by ship owners are an impediment to further scrubber installations. As
discussed later in this report, our outlook is for spreads to narrow rapidly after a 2020 peak but to stabilize near/below $200/ton. That level is
sufficiently wide for larger vessels to find scrubber installations moderately attractive.
Although costs per vessel are relatively modest (at least compared to THE RETURN ON SCRUBBERS WILL LOOK VERY ATTRACTIVE IN 2020, BUT
say the cost of refinery modifications), the cumulative cost to install WILL STILL GIVE 2-4 YEAR PAYBACKS AFTER SPREADS NARROW
scrubbers on a substantial portion of the fleet would be very high. There
Payout Period, Years
are roughly 80,000 vessels of all types in the current global fleet. Of 9.0
Current 2020
those, perhaps 20,000 would be strong candidates for scrubbers. 8.0 Spread:
HSFO vs.
Spread:
HSFO
Strong candidates are younger vessels (new builds or existing vessels 7.0
MGO vs. 0.5% Approx.
Scrubber
10 years old or less) and larger vessels (exceeding 30,000 DWT) which 6.0
MDWT Cost, $MM
VLCC 305 3.5-5.7
consume larger amounts of fuel. At an average cost of $3-4 million 5.0
Suezmax 155 2.8-5.1
each, the total would be 60-80 billion dollars. 4.0
Aframax 108 2.6-4.9
3.0 Panamax 72 2.1-4.2
In addition, ship owners face new mandatory IMO rules requiring ballast 2.0 MR
45 1.6-3.5
water treatment systems which take effect in July 2019. These will 1.0
Product
Issues:
require additional investments of $0.6 MM to $1.6 MM per vessel. 0.0 • Open, Closed or Hybrid System
Together, these are very substantial capital cost outlays for an industry 50 100 150 200 250 300 350 400 450 500 • New versus retrofit
• 9-12 month retrofit lead time
that has been experiencing financial difficulties. Such considerations No content below the line
0.5% S vs HSFO Spread, $/T
Payout Period with $3.5 MM Capital Cost
will slow the pace of scrubber adoption. Payout Period with $4.5MM Capital Cost
Platts
Colors:
Longer term, scrubber penetration is expected to increase as part of NEW LARGER VESSELS WILL LIKELY BE SCRUBBER EQUIPPED ADDING UP TO
the normal vessel replacement cycle wherein older vessels are 150-160 MB/D OF HSFO DEMAND PER YEAR
scrapped and replaced by new vessels which would most likely have Number of Vessels
scrubbers. At some point, scrubbers on new larger vessels will be 900
viewed as “standard equipment” rather than an option. 800
700
Just looking at the larger vessels with the largest fuel consumption Major vessel
rates (tankers, containerships, and dry bulk) shows a new buildings rate 600 groups:
Container
of roughly 600 ships per year from 2020-2025. These ships have the 500
Drybulk
largest financial incentives to install scrubbers. If these ships were to do 400 Tanker
so, the HSFO use would increase by roughly 150-160 MB/D per year (600
300
ships x 50 MT/day x 300 days/year). Although there may be some who
opt to not add scrubbers, there will also probably be a significant 200
number of smaller ships and retrofits which do decide to add scrubbers 100
(as seen in the installations to date). 0
2014 2015 2016 2017 2018 2019 2020 2021 2022 2023 2024 2025
Platts
Our outlook for scrubber installation is based on that analysis. It Colors:
increases from 600-650 in 2020 to 1400-1450 in 2025, equivalent to an Data color order: Complimentary colors: Footer : Never change the footer text on individual slides. Change, turn on or off
average increase of 160 MB/D P.A. in HSFO consumption.
LNG Bunkers Growing but Will Only Capture a Small Share of the Bunker Market
The use of LNG as a bunkering fuel is currently small,
LNG BUNKERS ARE GROWING BUT TAKE UP IN 2020 WILL BE SMALL
representing just over a 3% share of the marine fuels market.
Over the next dozen years to 2030, S&P Global Platts Analytics LNG use as marine fuel has been slow to develop but is growing
expects that share to rise to over 7 wt% of the total bunkers  Currently, ~3% of marine fuels-mostly LNG vessels; minimal
market. This is lower than some outside estimates for LNG penetration in non-LNG vessels
market share which run as high as 30% of the bunkers market  Lack of delivery infrastructure, safety concerns, price
as we believe those levels are unrealistically high. Nearly all of uncertainty, high costs for dual-fuel engines, methane leakage
our projected LNG bunker consumption and the majority of are impediments
growth until 2020 is related to consumption by LNG carriers Some adoption driven by marginal environmental credentials
(boil-off), with only limited penetration outside of LNG transport.  Improvement in NOx and particulates but limited incentive
Use in other vessels increases after then, but it is not until 2030 based on current legislation.
that it reaches the levels used in LNG tankers.  Seen as solution for lower carbon although only by about 10-15%
which is eroded if there is methane leakage in the supply chain
The main issues that are slowing further penetration are related Technology and infrastructure improving
to shippers’ reluctance to invest in LNG-capable engines (LNG  Eleven major ports have joined LNG focus group planning LNG
engines are very expensive) and suppliers not willing to build bunkering facilities; three LNG bunkering vessels built, one
sufficient infrastructure until the market is more developed. more on order
Initial estimates put the cost at $8-$12 million which would  Manufacturers are offering dual fuel engines capable of burning
liquid fuels or LNG; LNG ready ship designs
require a longer payback period (up to 3 years) than a scrubber  Long-term contracts with cruise lines
solution. There are other hurdles, such as the need for a larger
amount of bunker storage space than for HSFO. The deck space Rollout expected to be slow; Reference Case assumes 7% bunker share by
2030
required to house the LNG storage tanks are a particular
problem for container ships where deck space is at a premium
and would further hurt its economics.
Infrastructure limitations are also a problem currently. However, there SHARE OF NON-LNG CARRIERS IN LNG BUNKER MARKET WILL MATCH LNG
have been some inroads to solving this chicken-and-egg issue. Eleven VESSEL CONSUMPTION BY 2030
major ports have joined an LNG focus group planning LNG bunkering MM Tons Of LNG/Year
facilities. The regulatory framework to promote LNG bunkering is also 35
LNG as Bunkers in LNG Carriers (boil-off) LNG as Bunkers in Non-LNG Vessels
receiving a boost. In April 2017, for example, Singapore launched its first
30
technical reference --TR56-- for LNG bunkering. The TR56, with three
parts --Requirements for Custody Transfer; Procedures and Safety 25
Distances; and Competency Requirements for Personnel -- is
essentially aimed at providing a safe and efficient framework for 20
conducting LNG bunkering operations in the port of Singapore.

15
Infrastructure has also been put in place in the Port of Rotterdam to
provide LNG bunkering services, and Shell has taken delivery of its first 10
LNG bunkering vessel.
5
Shell has also signed a long-term supply arrangement with Carnival

0
cruise lines for supplying LNG bunkers to Carnival vessels with LNG-
2015 2016 2017 2018 2019 2020 2021 2022 2023 2024 2025 2026 2027 2028 2029 2030 Platts
capable engines in Europe. Manufacturers are offering duel fuel engines

Colors:
capable of burning LNG or liquid fuels. Container vessel operator CMA Data color order: Complimentary colors: Footer : Never change the footer text on individual slides. Change, turn on or off
CGM has recently announced that LNG capable engines will be installed on nine 22,000 TEU vessels scheduled for delivery in 2020.
The fleet of LNG fueled/LNG capable vessels currently operating or on order by 2020 totals around 650 vessels. But most of these ships are
either LNG tankers (525 including regas/liquefaction tankers, FPSOs, LNG bunker vessels, etc.) or smaller vessels and do not consume much
bunker fuel. The number of medium-larger ships (tankers, containerships, bulk carriers, etc.) excluding LNG carriers, number around 65-70.
At 50 MT/day x 300 days/year, that totals about 1 million tons/year of LNG use in non-LNG tankers in 2020. Adding in about 11-12 MM Tons/year
for LNG tankers, gives roughly 4 wt% of bunker demand in 2020.
Nevertheless, while rising from this relatively small base, LNG is the fastest growing bunker fuel on a percentage basis in our outlook.
LNG has an advantage of moderately reducing GHG emissions as well as cutting NOx emissions by 85%. However, such CO2 savings need to
be offset by the potential for fugitive emissions of methane, a much more potent greenhouse gas.
Other fuels have also been proposed as alternatives including LPG and methanol. While there is some analysis and experimentation going on
with these fuels, they will not contribute significantly by 2020, or realistically any time soon.
Bunker Demand Outlook

Total bunker volumes are expected to grow by just under 2.5-2.75 % THE IMO 2020 BUNKER FUEL SPEC CHANGES WILL FORCE 3 MMB/D OF HSFO
annually between now and 2025, then more slowly. Total bunker TO SWITCH TO LSFO AND DISTILLATES
demand in 2020 is projected to be 6 MMB/D or 300 million tonnes/yr, Global Bunker Demand, MMB/D
which is close to the number used in the CE Delft study (320 million 8
tonnes/yr). The new 0.5% sulfur marine fuel will be supplied in various 7
ways, such as a 60/40 mix (by volume) of 0.1% sulfur mid-distillate/ 1% LNG
6
sulfur residual fuel oil (LSFO), straight-run low sulfur bottoms (e.g., from
Chad crude), vacuum gasoil (VGO), etc. S&P Global Platts Analytics also 5
Distillates
expects an increase in marine gasoil’s share of the bunker market in
4 0.5% S
2020. This reflects shippers’ desire to use a well-known fuel and avoid LSFO
potential problems with the availability of 0.5% sulfur blends, 3 Dist for Blending
and
Blends
differences in quality at different locations, and fuel 2
LS HFO
compatibility/stability concerns onboard ship.
1
S&P Global Platts Analytics is assuming 6% of bunker demand will be 0

High Sulfur Residual Fuel Oil
met by ships with scrubbers by 2020, as limited by vendor capability to

2010 2015 2020 2025 2030
Platts
 Assumes global shift implemented in 2020 with minimal cheating/ lags
manufacture/install scrubbers, dry dock scheduling, shippers’
Colors:
resistance to installing scrubbers and shippers’ capital constraints, Data color order: Complimentary colors: Footer : Never change the footer text on individual slides. Change, turn on or off
especially in the dry bulk and container sectors.
An additional small amount of high sulfur bunkers will be used outside of ships with scrubbers because of the transition to 0.5% sulfur (due to
waivers, delays in enforcement, etc.), as well as some deliberate non-compliance, but this will likely disappear in subsequent years.
S&P Global Platts Analytics has assumed a split between marine gasoil IN 2020, 85% OF BUNKER DEMAND WILL BE LOW SULFUR BLENDS/GASOIL
and new 0.5% sulfur fuel blends favoring the new fuels driven by their BUT THIS WILL DECREASE AS SCRUBBERS ARE INSTALLED AND LNG GROWS
lower cost. This is even though many shippers have expressed a
preference for a fuel that they have experience with (i.e., marine gasoil). Global Bunker Fuel Type, Weight %
Also, the pace of the rollout of these new 0.5% blends by refiners is not Residual Based Fuels
certain, nor is the geographical extent of their distribution known. HSFO HSFO “New” Fuel
Hence, there is some risk that the demand for marine gasoil could LSFO Distill. LNG
Scrub No Scrub (0.5% S)
exceed our projection and similarly there is risk that use of low sulfur
residual based blended fuels could initially be lower. 2017 0% 66% 3% N/A 28% 3%
2020 6% 5% 0% 45% 40% 4%

S&P Global Platts Analytics is assuming 22% scrubber penetration in
2025 and 30% penetration in 2030 (weight percent of total forecast 2025 22% 0% 0% 45% 28% 5%
bunker fuel consumption) as shippers become more comfortable with
2030 30% 0% 0% 36% 27% 7%
the idea of scrubbers, and their economic benefits (in terms of savings
in fuel cost) become apparent. In this anticipated scenario, HSFO 2035 33% 0% 0% 33% 26% 8%
bunker fuel volumes decline from 3.6 MMB/D in 2017 to 0.6 MMB/D in
Platts
2020 and then rebounds (due to greater scrubber penetration) to 2

Colors:
MMB/D in 2030. The “new” 0.5% sulfur bunker fuel debuts at 2.7 MMB/D Data color order: Complimentary colors: Footer : Never change the footer text on individual slides. Change, turn on or off
in 2020 and stays relatively steady at 2.6 MMB/D in 2030. Marine gasoil volumes increase by ~0.7 MMB/D to 2.5 MMB/D in 2020 but then ease
to 2.1 MMB/D in 2030 as shippers install scrubbers and market share is lost to HSFO.
Implementation Issues Associated with Low Sulfur Bunker Fuels

Some shippers have raised concerns about blend compatibility issues, stability issues, and operational/mechanical issues associated with
using lower viscosity fuels for prolonged periods.
While the transition to the new fuel will be challenging for shippers, there are no show stoppers and many of their concerns have in fact,
already been addressed. For example, some have questioned whether vessels will be able to operate exclusively on gasoil based fuels. But
many vessels operating largely in the Baltic and North Sea ECAs have been primarily using 0.1% sulfur gasoil since the beginning of 2015.
Others have expressed concern over transitioning to different fuels. This has also been routinely addressed by any ship entering ECAs (i.e.,
the United States and Northern Europe) as they have needed to transition from global fuels (HFO) to low sulfur (gasoils). Another concern
relates to the reduced lubricity of lower sulfur fuels, but this too has been addressed by suppliers. ExxonMobil, Shell and others have
developed high quality cylinder oils specifically designed to support operating with lower sulfur fuels.
Regarding lower viscosity fuels, the level of concern among vessel operators varies depending on whether they have been exposed to
operations in existing Emission Control Areas (ECAs) such as the Baltic Sea or the U.S. coasts where use of lower viscosity gasoil is now the
standard. Although the composition and viscosity of 0.5% sulfur blends have yet to be determined, they are likely to be less viscous (requiring
less heating) and lower lubricity (requiring higher lube oil injection rates) as is the case when operating with 0.1% sulfur compliant fuels in the
ECAs. Whether this will have any longer term effects on engine wear and performance, while a concern, is not expected to be a show stopper.
Other operating procedures may need to be amended to accommodate lower viscosity fuels. This is not for the minor/auxiliary engines which
already use gasoil, but for the main ship engines, where the transition between fuels of widely different viscosity will need to be made
carefully.
Nevertheless, some shippers are proposing that any new 0.5% sulfur fuel specification have a minimum viscosity. While such an outcome
would ease concerns for the transition for shippers, it would be even more difficult for refiners to make sufficient volume of such blends and
would effectively force other shippers to use more alternative fuels (gasoil or lower viscosity “off spec” blends). Consequently, this seems
less likely to be implemented in our view.
ISO has initiated the process to develop a Publically Available Specification (PAS) as an interim solution that will provide detailed guidance to
fuel suppliers and users on key identified fuel characteristics/aspects such as stability/compatibility, cold flow properties (wax precipitation),
etc. and are aiming to provide information on the PAS to MEPC 74 in the spring of 2019.
Compatibility issues between different refinery streams (e.g., residuals, VGO, LCO, gasoil) used in the new blends have also been raised as an
issue by many market participants. Since the blending of these streams will be done on-shore by the refiner/bunker blender (and not on-
board ship), phase separation or other compatibility issues are less likely to be a problem on a stand-alone basis.
However, mixing of significantly different fuels in a ship’s bunker tanks could be more problematic and would thus require testing/operational
considerations to minimize that risk. Since such testing is unlikely to be comprehensively available initially in 2020, ship owners will need to
be careful about how they bunker to avoid mixing different blends with unknown compatibility in the same bunker tanks. Draining/flushing
individual bunker tanks prior to bunkering will likely become a common practice.
Another concern is the fines content of the new fuel and the smaller quantity of remaining HSFO bunker fuel. Because cat cracked slurry oil is
often higher sulfur and contains catalyst fines, and it has almost no alternative uses besides being blended into fuel oil (ignoring small
volumes used to make carbon black), practically all of this refinery stream will likely remain as a component in high sulfur fuel oil. But it will be
blended with lesser amounts of other streams. Consequently, the concentration of fines in the high sulfur blended fuel oil should rise on
average. However, the fines content is still expected to generally be at a manageable level and below the maximum aluminum + silicon limit
for fuel oil. There is just more risk of getting a “bad” cargo.
Disposal of Excess High Sulfur Residual Fuel Oil Will Be a Major Issue for Refining
From a refining standpoint, S&P Global Platts Analytics believes that the anticipated refining facilities additions between now and 2020 will
not by themselves have the capability to destroy all of the excess HSFO that would be surplus in 2020. Higher cost steps throughout the
industry will be needed to rebalance. This is different in both substance and tone from the results of the IMO study which stated that it was
technically feasible (but never addressed cost). The primary differences in our work compared to the IMO study are our focus on cost/price
impacts and our recognition that not all facilities can/will optimize to maximize LS HFO production, particularly when such optimization would
require large trades between different facilities/countries/regions. Other differences are likely due to particular assumptions regarding spare
capacity and flexibility of existing conversion/desulfurization facilities, amongst other reasons.
Comparing 2020 with 2017, the issue for refining is to destroy 3 MMB/D of HSFO used in bunkers and create 1.3 MMB/D of LSFO / 2.0 MMB/D of
distillate for use in bunkers. The net 300 MB/D represents the growth in overall bunker demand over this period. In addition, residual fuel use
on land (e.g. for power generation) is also trending lower by 0.1 MMB/D over this period and diesel/gasoil for non-bunker uses is growing by 1.4
MMB/D.
The change in bunker specifications will affect refining all along the oil MULTIPLE REFINING FACTORS ARE NEEDED TO MEET 2020
barrel, including: (1) full use of new conversion and desulfurization DEMAND
facilities which are expected to start up by 2020, (2) changing run
Availability of low sulfur crudes
rates/grades in individual facilities, (3) higher utilization rates for coking
 67% of incremental volumes to 2020
and hydrocracking, (4) shifting operations/cut points/yields to produce
more middle distillates at the expense of gasoline and fuel oil, (5) higher Maximize yield of middle distillates
utilization and repurposing of heavy oil desulfurization (resid/VGO HDS), Additional VGO and resid desulfurization capacity
and (6) replacing lower sulfur feeds to conversion with higher sulfur ones  Primarily linked to low sulfur cat cracking
and consequently affecting yields and production volumes.
Planned additions of fuel oil destruction (i.e., coking)
One final step, if the aforementioned measures are not adequate to close  Given the spec timing (<2 years) vs. project time scale
the balance, is to price the heavy fuel oil low enough that it is temporarily (~5+ years concept to startup), no major unexpected
stored or burned onshore (e.g., displacing crude burn or non-oil fuels). projects are likely
These last steps effectively increase total global oil demand and thus Shifting fuel oil pool from viscosity-limited to sulfur-limited
result in somewhat higher total crude runs. Higher runs of high sulfur
Strong distillate demand requires global yield shift (~1% on
crude (OPEC sour is the marginal supply source) would provide crude run)
incremental light products but would exacerbate the HSFO disposal
volumes, pushing even more into on-shore uses.
In addition, the new 0.5 wt% sulfur fuel will be sulfur-limited rather than viscosity-limited, which will lead to changes in blending. This will
free-up some “cutter stocks” for other uses.
Overall, there are two related problems that need to be overcome:
 Produce enough 0.5% sulfur HFO/blends
 Dispose of ~3 MMB/D of current high sulfur fuel oil production
Changes in global crude quality will help with the first problem, while new refinery conversion/HDS and shipborne scrubbers will help more
with the second. More detailed balances showing the impacts of all these steps are included later in this report.
Global Crude Quality Getting Lighter/Sweeter Helps, But Not Enough by Itself for 2020
Global crude quality has been getting lighter (and sweeter) on average THE AVERAGE API OF GLOBAL CRUDE/CONDENSATE IS RISING WHILE THE
since 2005. Initially this was due to a sharp slowing in the growth of YIELD OF RESIDUE IS FALLING WITH NET PRODUCTION RISING MORE SLOWLY
heavy-sour crudes (e.g., Maya’s Cantarell field peaked) while medium
grades continued to expand (OPEC Mideast). This was followed AVERAGE API AND % 650F CONTENT GLOBAL CRUDE AND
CONDENSATE AVERAGE QUALITY
beginning in roughly 2010 by the explosive growth in U.S. shale 33.4 45% 90 40
crude/condensate production. Nevertheless, despite an increase in 33.2
650F+ Content, % Crude Runs
average API gravity and a consequent decrease in average % resid 44% 85 38
Total Refinery Runs ,MMB/D
650F+ Resid Volume, MMB/D

33.0
content, the total volume of 650F+ atmospheric resid contained in
650F+ content, Vol %

API Gravity
crude runs is continuing to increase. The growth in total runs is faster 32.8
43% 80 36
than the improvement in average crude quality. It just means that the 32.6
1MMB/D
growth rate of resid production is slower than what one might have 32.4
42% 75 34
Slower
expected before shale oil production became so prominent. 32.2
API Gravity Growth
41% 2015-18
70 650F+ 32
32.0 Resid
Still, the increasing production of light-sweet crudes will help in meeting Volume
2020 balances. On an incremental basis from 2017 to 2020, 67% of 31.8

2000 2005 2010 2015 2020 2025
40% 65 30
2010 2015 2020 2025
crude supply is expected to be low sulfur (crudes with 0.6 wt% sulfur
Platts
and below). This is driven by U.S. shale crude growing by more than 2
Colors:
MMB/D over this period. After then, the percentage of low sulfur crude Data color order: Complimentary colors: Footer : Never change the footer text on individual slides. Change, turn on or off
in incremental crude runs declines but is still 50% through 2023. INCREMENTAL CRUDE RUNS SKEWED TOWARDS LOW SULFUR
MMB/D
5
But it is important to note that low sulfur crude does not necessarily
produce low sulfur fuel oil suitable for use by itself as a bunker fuel.
4
First, the higher sulfur species in crude oil are concentrated in the heavy
components. Although it varies from crude-to-crude, on average the
atmospheric resid has 1.8 times the sulfur level of the total crude. 3
Condensate
Second, not all low sulfur resids are suitable for use. In particular, some
U.S. Low
“waxy” crudes with high paraffin contents produce resid with very high 2
Sulfur
pour points. Although these low sulfur waxy resids (LSWR) could in Other Low
Sulfur
concept be used, it would require separate handling/heating. 1
High Sulfur
Furthermore, they would likely be incompatible with more aromatic
resids which are commonly used (including such blending components 0
as FCC slurry oil/cycle oil.

-1
2020 vs. 2017 2023 vs. 2020
Looking at the resids from particular crudes, most North Sea grades Platts
Colors:
have sulfur levels closer to 1% than 0.5%. For West African grades, the
story is better as there are a number of grades with low sulfur resid (e.g., Doba), but there are many that are still too high. Even for the prolific
U.S. shale crudes, most are only just acceptable (e.g., Eagle Ford 45 API has 0.5% sulfur in its atmospheric resid). Furthermore, these light
crudes have low resid yields. For many Asian grades, the sulfur levels are low, and some are heavy, but the wax content is often quite high,
complicating their potential use in bunker fuels.
Globally, of the roughly 37 MMB/D of atmospheric resid contained in LOW SULFUR RESID VOLUMES COULD COVER BUNKER DEMAND BUT ONLY IF
crude production, roughly 70% have a sulfur content over 1.0%. Another SEGREGATED AND AT THE EXPENSE OF CAT CRACKING FEED
10% have sulfur levels between 0.5% and 1%. That makes them
ALL 650F+ STRAIGHT RUN RESID LOW SULFUR 650F+ STRAIGHT RUN RESID
candidates for blending but the blends would need to be up to 60% low MMB/D MMB/D
45
sulfur gasoil. The remaining 20% have sulfur levels under 0.5%, but ~ 1 14
Resid Sulfur
MMB/D are waxy. 40
12
Content:
>1%
35
There is roughly 6 MMB/D of atmospheric resids which are potentially 30

10
0.5% -
1.0%
suitable for direct use as a bunker fuel. This is more than enough in 8
25 0.25% -
theory. But in practice, most of this resid is not readily available. For 0.5%
20
example, refiners running very light sweet crudes produce so little 6
Under
0.25%
volume of these resids that it can be impractical to segregate the 15
4
Low Sulfur
volumes. More importantly, these sweet resids contain about 2/3 VGO 10 Waxy
Resids
and 1/3 vacuum resid. So use of them would deprive conversion units of 5
2
VGO which is their economically preferred feedstock. Similarly, resid 0 0

FCC units generally use low metals resids (which in practice are usually
2017 2020 2023 2017 2020 2023
Platts
low sulfur).
Colors:
Currently, VG0 is not usually included in bunker fuels as it is more valuable as conversion feed. Instead, vacuum resid is typically a major
bunker blending component along with various cracked stocks (e.g. slurry oil, visbroken vac resid, etc.). To meet the 2020 spec, low sulfur
resids will need to replace high sulfur ones and there is much less low sulfur material available. Of the 6-6.5 MMB/D of atmospheric resid
under 0.5% sulfur (excluding ~1.0 MMB/D waxy resid), only about one third is vacuum resid. Of that, perhaps 50% is readily segregated – only
about 1 MMB/D. In contrast, there is roughly 30 MMB/D if atmospheric resid with greater than 0.5% sulfur content. Even assuming similar
splits on vacuum resid content and segregation, it is still five times larger.
Consequently, although there is enough low sulfur resid in the world to create low sulfur bunker fuels, to do so will require price spreads wide
enough that bunkers can out-compete with those conversion feed uses. Effectively, the market needs to price bunkers higher than low sulfur
VGO.
That will be a key challenge for the industry, to get these lower sulfur resids out of their current uses including FCC, HCU, coking and even
asphalt and economically replacing them with something still suitable for use in those facilities. That will be particularly challenging in more
isolated markets (e.g., much of China’s domestic crude production is low sulfur but is consumed in domestic conversion/coking refineries).
New Refinery Capacity Helps, But Not Enough by Itself for 2020
Planned refining facilities starting up by 2020 will also play a large role in GROWTH IN REFINERY CAPACITY IS CONCENTRATED IN ASIA/MIDDLE EAST
helping meet the change in demand. Conversion additions between end CONVERSION WITH RESID DESULFURIZATION INTENDED FOR FEED-PREP
2017 and the beginning of 2020 total 1.7 MMB/D, nearly evenly split PLANNED START-UPS/SHUTDOWNS PLUS CAPACITY CREEP BETWEEN 2017 AND 2020
between coking, hydrocracking, and cat cracking. The distribution of MB/D
1000
the new capacity will also be a factor with much of the conversion
additions occurring in China, India and other countries which are not
750
normally bunker suppliers. Although they may be a sink for higher sulfur
resids, they will not necessarily be a source for lower sulfur residual
bunker blend components. 500 Atlantic Basin
FSU
MidEast/Afr
Additions of heavy oil desulfurization facilities total 1.1 MMB/D, roughly 250
Other Asia
evenly split between VGO and resid desulfurization. Eighty percent of China
the new heavy oil desulfurization facilities are in Asia (including China). 0

-250
Resid Coking Cat Cracking Hydrocracking VGO
Desulfurization Desulfurization Platts
Colors:
However, these desulfurization facilities may not all directly contribute

RESIDUE DESULFURIZATION PROJECTS WILL GIVE SOME ASIAN
to solving the bunker spec transition problem. They were all planned REFINERIES ADDITIONAL FLEXIBILITY AND OPTIONS
before the October 2016 announcement of IMO’s decision to have the
spec implemented in 2020. As such, they probably have other
Resid
processing objectives and may not be able to readily shift operating Refinery Location HDS,
Estimated
Start-Up
Process Objective
MB/D
modes. For example, all of the planned VGO desulfurization and half the
resid desulfurization in Asia are intended for pretreatment of FCC feed CPC Ta Lin, Taiwan 30 2Q 2017
Replaces unit shut at
Kaohsiung
and thus may be needed to help meet other product specifications (e.g.,
Sinopec Jingling, China 35 2Q 2017 Crude Flexibility
FCC gasoline sulfur levels). It remains to be seen whether refiners can
CNOOC Huizhou, China 75 3Q 2017 Crude Flexibility
also utilize these facilities to destroy some HSFO. Of the 580 MB/D of KPC Mina al-Ahmadi, Kuwait 50 1Q 2018 Low Sulfur Fuel Oil
resid desulfurization facilities planned by 2020, more than half that Petro-Vietnam Nghi Son, Vietnam 100 2Q 2018 Pretreat FCC Feed
capacity is explicitly cited as being intended for FCC feed pretreatment. S-Oil Wonson, S.Korea 60 3Q 2018 Pretreat FCC Feed
RAPID Johor, Malaysia 150 1Q 2019 Pretreat FCC Feed
These new heavy oil desulfurization and conversion facilities will be part Rongsheng Zhousan, China 80 2Q 2019 Crude Flexibility
of integrated refinery projects that will include the necessary hydrogen
Total 580
generation and sulfur recovery units. Contrary to some industry reports, No content below the line
Platts
S&P Global does not believe that there will be a shortage of sulfur plant Colors:
or hydrogen plant capacity and expects no such offsite limits to Data color order: Complimentary colors: Footer : Never change the footer text on individual slides. Change, turn on or off
REFINERS WILL SHIFT YIELDS FROM GASOLINE TO DISTILLATES* SIMILAR TO
materially affect the ability of refiners to meet 2020 bunker PREVIOUS YEARS PRODUCING AN ADDITIONAL 1 MILLION BARRELS/DAY (1%)
specifications.
2020 ADDITIONAL YIELD SHIFT ~1000 MB/D OR 1%
Another area of concern is the need to shift yields between gasoline United States
55%
Europe
55%
Asia
55%
and middle distillates. Strong mid-distillate demand growth, including
land trade and for bunker fuels/blends, will require an overall yield shift 50% 50% 50%
of 1% on crude. This type of yield shift has been achieved in the past and
should not pose a major problem. The example of 2008-2009 45% 45%
2009:
Drops to 45%
demonstrated shifts in the United States of up 3% in 2008 and then 48.7%
down 2% in 2009 relative to 2007. In Europe, the shifts were similar 40% 40% 40%
(2.5%) even though they were starting from a much higher base. Asian 2009:
2008 response:
48.5% to 51%
refiners collectively have not shown such large swings, but given their 35% Drops to
35.4%
35% 35%
facilities, they should be able to do so. Note that China’s diesel yield fell 2008 response:
37.5% to 40.5% Japan China India
precipitously in response to oversupply in recent years – in principle 30% 30% 30%
that could be reversed with gasoline shortfalls covered by component No content below the line
Platts
imports (e.g., mixed aromatics – discussed separately in multiple PIRA *Diesel, gasoil, kero, jet Colors:
Oil Service reports). Data color order: Complimentary colors: Footer : Never change the footer text on individual slides. Change, turn on or off
Steps by Refining and the Broader Industry to Close the Balance in 2020
Global demand growth for major refined oil products between 2017 and 2020 is expected to total 3.8 MMB/D. This implies a comparable level
of growth for refinery runs. After factoring in incremental crude runs of 3.8 MMB/D (including 700 MB/D of condensate) and including some
incremental demand for asphalt, the planned new facilities are only capable of destroying/consuming 1600 MB/D of HSFO. This is well short of
the 3000 MB/D of HSFO destruction required.
In addition, production of middle distillates (including kero/jet

NEW REFINERY CAPACITY AND MAXIMIZING DISTILLATES WILL NOT BALANCE
as well as diesel/gasoil) is well short of its required target. The DISTILLATE AND RESIDUE IN 2020
needed middle distillates could be supplied by running
CUMULATIVE CHANGES BY 2020 (VS. 2017)
additional crude, but that will only exacerbate the HSFO
disposal issue (more on this later). Incr.
---------------New Facilities Added -----------
Crude/ Cutter Incr. Shift

MB/D Cond FCC H/C Coking Stock VGO Resid Asphalt Mogas Net Supply Demand Long/
The first set of balances for 2020 shown here reflect the Runs Saved HDS HDS Demand to Dist (Refining) (Short)
incremental crude runs and their qualities, incremental Runs/Capacity 3800 500 600 600 500 580
demand, and the planned facilities by 2020. It assumes

Mogas/Naphtha 900 300 100 100 (600) 800 900 (100)
“business as usual” yield structures/operations and thus
implicitly assumes price spreads similar to what we see today. Middle Distillate 1500 100 400 300 100 600 3000 4000 (1000)
HS VGO 300 0 (600) 100 (300) (250) (750)

Under those assumptions, a gap of 1.4 MMB/D would remain (100)
HS VR 200
(100) 0 0 (600) 0 (250) (850)
between identified HSFO destruction steps and the required HS Resid/HFO (~3% S) 500 0 (600) (500) (100) (300) (500) (100) (1600) (3000) 1400
target. A similar shortfall in light products is also not covered.

LS Resid/HFO (~1% S) 700 (450) 50 300 500 1100 1350 (250)
These balances also include 10 vol% of total bunker fuel
(~20% of high sulfur or around 600 MB/D) remains as high Others 200 100 50 50 100 500 550 (50)
sulfur bunkers due to a combination of scrubbers and non- Total

3800 50 0 (50) 0 0 0 3800 3800 0
compliance. Although an increase in scrubber installations by Platts
Colors:
2020 or higher non-compliance could theoretically provide an Data color order: Complimentary colors:
Footer : Never change the footer text on individual slides. Change, turn on or off
outlet for say another 300-500 MB/D, even that would only close part of the gap. That solution is effectively part of the IMO study base case
but is not included in our balances shown here.
Consequently, if conventional operations cannot close the gap with current pricing, price spreads will widen to provide incentives for refiners
to take previously uneconomic steps.
The most obvious will be to maximize utilization rates in deep conversion facilities. The United States historically had very high utilization
rates (93%) for its cokers in the 2005-07 period when the spread between mid-distillate and HSFO was high, but has only averaged 88%
utilization since 2012. If all cokers globally raised their utilization by 4% (and the incentive should certainly be there), then that would reduce
HSFO by another 350 MB/D. But to increase coker utilization, spreads need to widen. That is because not all cokers are alike. The current
spare capacity is in the worst, least efficient capacity. It is not fully utilized today because the economics do not support running it flat out.
That will change leading into 2020.
An additional shift of yields to middle distillate (via cut points,

MORE EXPENSIVE REFINING STEPS WILL BE REQUIRED, BUT THAT MAY NOT
etc.) could reduce HSFO by 100 MB/D while increasing clean BE ENOUGH TO FULLY CLOSE LIGHT-HEAVY BALANCES
products by 300 MB/D. CUMULATIVE CHANGES BY 2020 (VS. 2017)
Additional Revised
Net Long/ Exist. Dist. Yield Deeper Resid Cat Segreg- Long/
Deeper vacuum distillation cut points and some substitution MB/D Refining Demand (Short) Cokers Shift VDU Cracking ation Net Refining (Short)
Supply
of high sulfur resid for low sulfur resid in resid FCC (primarily in +4% 0.5% Cut
Shift LS to
After
Supply HS Plus
the U.S./Europe) could provide additional flexibility between Utiliz. Globally on
Crude
Point
More FCC
Operational
Changes
LSFO and RSFO, albeit with some FCC capacity/other debits,
assuming environmental restraints on FCC emissions are not Runs/Capacity 400
violated. More broadly, with low sulfur VGO pricing up close to Mogas/Naphtha 800 900 (100) 50 (150) 100 800 (100)
gasoil, FCC economics and operations will be more Middle Distillate 3000 4000 (1000) 250 450 3700 (300)
challenged. Gasoline production will suffer.
HS VGO (750) 50 (100) 100 (100)
HS VR (850) (400) 0 (100) (300)
Better segregation (i.e., more tanks) could free up perhaps HS Resid/HFO
(~3%S) (1600) (3000) 1400 (350) (100) 0 (400) (250) (2700) 300
250 MB/D of LSFO at the expense of HSFO. Currently, global
LS Resid/HFO
HSFO averages about 2.7 wt% sulfur (based on data from (~1%S) 1100 1350 (250) (200) 200 250 1350 0
Bunkerworld). This could theoretically be separated into 3.5% Others 500 550 (50) 50 0 550 0
sulfur HSFO and 1% sulfur LSFO if tankage were allocated for No content below the line
Total 3800 3800 0 0 0 0 (100) * 0 3700 0*

this purpose, either by refineries, terminals or bunker *Reflects lower yields of marketable products
Platts
Colors:
suppliers. Also, in some deep conversion facilities, low sulfur Data color order: Complimentary colors:
resids are sometimes sent to cokers currently. Incentives will exist to segregate these LS resids for the bunker market instead. Some low
sulfur resid even goes to asphalt which should change, again depending on price.
Even with all these steps (excluding additional scrubbers), clean products remain 400 MB/D short and HSFO remains 300 MB/D long. Raising
refining runs by 700 MB/D will allow clean product demands to be met. But these additional runs will be sourced from marginal OPEC crudes,
which are medium sour and produce HSFO. Hence, the HSFO disposal problem will increase to 600 MB/D. This will likely require further fuel oil
disappearance steps in 2020 outside of refining probably including temporary storage of 35-40 MMB of HSFO (100 MB/D) in idle VLCC’s/land
storage (Fujairah currently has ~40 MMBbl of tankage with is currently underutilized). Temporary storage would be facilitated by the markets
recognition that HSFO prices are likely to rise post-2020 as more scrubbers are added by the shipping industry. HSFO will be deeply in
contango in 2020 and thus could readily incentivize storage if sufficient liquid hedging instruments can be used. Even if the hedge were
imperfect (e.g., off of crude for the overall market level), the depth of contango would probably be sufficient to overcome such basis risk for
some physical players.
Once storage options are filled, HSFO prices will fall further to their ultimate floor set by the economics for burning it in power generation on-
shore. Those steps ultimately close the gap. Note that these severe steps are needed to close the balances for 2020. But the situation is
much easier in subsequent years (discussed later). Possible uses of HSFO in land trade include Saudi Arabia, Russia and East Asia.
Summarizing these balancing steps:
 Run more crude to create light products in 2020 COMPLETE CLOSURE MAY REQUIRE REFINERS TO INCREASE RUNS TO PRODUCE LIGHT
PRODUCTS WHILE SURPLUS HSFO PRICES TO CLEAR OUTSIDE OF THE REFINERY
o OPEC (medium sour) on the margin; exacerbates
HSFO surplus CUMULATIVE CHANGES BY 2020 (VS. 2017)
Revised
o Long/ HFO to Additional Final
Estimate 700 MB/D additional runs in 2020 MB/D Net Refining Demand (Short) storage Crude Runs Create Long/ (Short)
Supply After In 2020
 Place fuel oil into storage in 2020 Operational In 2020 (Medium More Resid
Changes Sour) Demand
o Facilitated by very deep contango, but forward Runs/Capacity 35-40 MMBbl 700 MB/D
market thin for hedging
Mogas/Naphtha 800 900 (100) 100 0
o Assume 35-40 million barrels (mix of
Middle Distillate 3700 4000 (300) 300 0
VLCC’s/onshore storage) in 2020
HS VGO 150
 Substitute ~500 MB/D HFO into on-shore thermal uses HS VR 150
displacing gas / crude burning in power gen HS Resid/HFO (~3%S) (2700) (3000) 300 (100) 300 (500) 0
o Russia - displacing gas in refining/power – possibly LS Resid/HFO (~1%S) 1350 1350 0 0 0
100-200 MB/D when HSFO netbacks to refineries Others 550 550 0 0 0

get low. This was seen in early 2016 when No content below the line
Total 3700 3800 (100) (100) 700 (500) 0
Rotterdam HSFO prices fell to under $20/Bbl, the Platts
Colors:
netback to Russian refiners was zero, and Russian

HFO exports fell sharply. Data color order: Complimentary colors: Footer : Never change the footer text on individual slides. Change, turn on or off
o Asia (South Korea, other East Asia, Pakistan) – displacing LNG in power generation/cement plants – possibly 300-400 MB/D –
efficiency/environmental issues
o Saudi Arabia - displacing crude burn in power/desalination – possibly 100-150 MB/D --- cost effective for the country but potential
operability/economic issues in some older facilities could be an impediment.
‒ Saudi Arabia burned roughly 500 MB/D of crude in 2017, which was down from its peak of ~600 in 2015. That reduction was
facilitated by increased use of gas and of HSFO. Crude burning is concentrated in the Western regions of the country and it is
there that HFO use has become significant (~300 MB/D for HFO versus 350 MB/D of crude in 2016). Further substitutions are
likely there.
‒ The next largest user of crude is in the central region (roughly 80 MB/D). These facilities are far from potential HFO supply and
are near major crude pipelines (carrying Arab Light). So, substitution to HFO or to Arab Heavy is unlikely.
‒ The final large user of crude is in the South (roughly 70 MB/D). That is where the new Jizan refinery will start up next year. It will
consume Arab Heavy and will have substantial power generating facilities (these capacity additions are already built into our
refinery balances). So, it could displace some crude burn in older power gen but without explicitly increasing HFO use.
o In the worst case, very low fuel oil prices of ~$20/Bbl or less would start to compete with coal. But there are few coal burning
facilities which have fuel oil tanks, etc. So, this is not necessarily a fast or large step.
Not all refiners will be equally affected. High conversion refineries that already produce minimal HSFO will benefit in this environment. On the
other hand, simple refineries with no conversion or even medium conversion refineries (feeding VGO to crackers) will face difficulties in
disposing of HSFO, and their margins will likely suffer relative to deep conversion facilities. However, all margins will remain sufficiently
healthy for crude runs to be maintained at levels sufficient to cover overall demand growth. And with incremental demand “created” for HSFO
into power generation or storage, overall runs will need to be higher (by 700 MB/D in 2020 in our Reference Case). That, in effect, requires
overall margin levels in simpler facilities to remain healthy.
Compliant Bunker Fuels Will Vary in Composition and Come from Multiple Sources
COMPOSITION OF LOW SULFUR BUNKERS/BLENDS WILL BE VARIED AND
It will be challenging to balance global light and heavy products in 2020. COME FROM MULTIPLE SOURCES/PROCESS UNITS
The related goals of producing sufficient 0.5% sulfur compliant bunker
COMPLIANT FUEL PRODUCTION IN 2020 VERSUS 2017
fuels and disposing of surplus high sulfur fuel oil will drive price spreads
MB/D LSFO Distillate
much wider and incentivize operational changes in essentially all 4000
refineries and bunker blending facilities. The new low sulfur bunker 3500
components which will be created, or made available from other uses, will
3000
be varied.
2500
Summarizing these changes shows that roughly half of the net new low
2000
sulfur bunker volumes will come from distillation (e.g., higher crude runs
reflecting the expected changes in crude composition between now and 1500
2020). This is essentially a “business as usual” supply layer once expected 1000
segregation in a wide price spread environment is included (900 MB/D

500
distillate, 700 MBD LS residuals). New desulfurization capacity will supply
roughly 800 MB/D of LS VGO/resid, but roughly half of that will be captive 0No content below the line
Distillation HDS / New Higher Coker Resid FCC Yield Shift Segregation Total Platts
to new conversion and will not be available for bunkers. Still, with roughly Conv. Util. Colors:
400 MB/D of desulfurization and plus some net new conversion, another Data color order: Complimentary colors: Footer : Never change the footer text on individual slides. Change, turn on or off
25% of the LS bunker volume can be covered. There are several other refining/logistical steps which will collectively account for the rest
including: higher coker utilization (mainly used to destroy high sulfur resid), substituting high sulfur feeds into cat cracking (FCC) instead of
low sulfur VGO/resid, additional yield shifts (cut points, use of heavy atmospheric gasoil, etc.), and segregation of existing residuals (e.g., high
sulfur HFO averages 2.6% sulfur versus a spec of 3.5% -- currently essentially “giving away” some sulfur spec).
Putting it all together results in a mix of 55% distillates (MGO and distillates Volume,
used in blends with resids) and 45% residuals boiling over 650F. Breaking this LS Bunker Fuels in 2020 MMB/D Share
out even further shows that the new blends will contain VGO type molecules MGO 0.6 18%
(including virgin VGO, desulfurized VGO, and desulfurized heavy gasoils such
as heavy coker gasoil), low sulfur vacuum resids, and gasoils. The shares 0.5% Blend: 2.7 82%
shown here are consistent with the refinery capacity, crude compositions, VGO 0.8 24%
and operational changes already described. However, these are only rough
guides as the scale of the change and the range of the participants is too LS Resid 0.7 21%
large to definitively predict.
Distillate components 1.2 37%
Outlook after 2020 Is More Manageable

Post-2020, additional refinery facilities are already planned that will SUBSTANTIAL ADDITIONAL REFINERY CAPACITY IS PLANNED TO START-UP
destroy HSFO, and other projects are likely to be initiated. Also, ships BETWEEN 2020* AND 2023*
will continue to add scrubbers (especially for new vessels). Our
PLANNED START-UPS/SHUTDOWNS PLUS CAPACITY CREEP
assumption is that the total scrubber-equipped fleet reaches ~8000
MB/D
vessels in 2025 which consume ~1.5 MMB/D of HSFO. Consequently, the 1500
HSFO destruction issues that refiners are expected to face in 2020 will
1250
be much more manageable in subsequent years and should be
essentially fully resolved by 2025. 1000
As with any disruptive change, there is a risk of over-reaction. 750
Shippers will see an incentive that can be implemented quickly and will 500
have a payout period of 1-4 years. So that may continue to go ahead.

250
But refiners faced with investment decisions to destroy high sulfur fuel 0
oil will see a risk of spreads collapsing before their investments start-up Resid HDS
No content below the line Coking Cat Cracking Hydrocracking VGO HDS
Platts
(5 years minimum for a new project). And with their high, front loaded * Start of year capacity Colors:
capital costs, they will need a longer period of wide spreads to get an Data color order: Complimentary colors: Footer : Never change the footer text on individual slides. Change, turn on or off
acceptable return on their investment. Hence, refiners may be more cautious because they do not want to run the risk of “over-investing”,
and may wait until the pace of scrubber installations and price spreads reach some equilibrium level.
Consequently, our balances do not assume any surge in unannounced refinery projects. Instead the balances are based on announced
projects for the next several years, along with “typical” levels of capacity creep and new not yet announced projects.
Implications for Product Prices and Crude Differentials

Before discussing 2020, we need to describe the current situation. Fuel
DESPITE CONVERSION CAPACITY GROWTH SLOWING, IT IS STILL ROUGHLY
oil prices have been relatively firm compared to crude prices for the last THREE TIMES THE AMOUNT OF RESIDUE GROWTH OVER 2016-2019
few years. This is driven by two factors: 1) a global crude slate that is
getting lighter due to the growth of shale crude and OPEC restraint on YOY Change, MB/D
1600
mostly medium grades (as already described), and 2) the growth in resid
conversion capacity in refineries which has been substantial over the 1400
same period. 1200

~ 3MMB/D
1000
Since 2015, global average crude API gravity has fallen by 0.1 API, reducing Hydrocracking
the average percentage of atmospheric resid by 0.4%. That did not lead 800
Cat Cracking
Coking
to a reduction in resid production however as growth in crude runs more 600
than offset the percentage change in resid content. But it did slow the
growth. From 2016-19, total atmospheric resid content in crude runs 400
increases by less than 1 MMB/D. 200
0
At the same time, the combined total of new conversion capacity (coking, No content below the line
2004 2006 2008 2010 2012 2014 2016 2018 2020 2022
cat cracking, and hydrocracking) increases by roughly 3 MMB/D. Although Platts
Colors:
the capacity increase does not destroy resid one-for-one (e.g., coking Data color order: Complimentary colors: Footer : Never change the footer text on individual slides. Change, turn on or off
destroys vacuum resid but produces heavy coker gasoil which is similar
to VGO and is used to feed other conversion units), the effect has been to HIGH SULFUR HFO BALANCE IN 2020 REQUIRES USE OF STEPS OF
INCREASING COST, DRIVING CLEAN-DIRTY SPREADS WIDER
tighten resid balances. That tightening is what led to firmer fuel oil cracks
which effectively led to changes in refinery operations to balance supply HSFO DESTRUCTION IN 2020 VERSUS 2017
and demand. 4000
MB/D
For 2020, we start on that historical base but the magnitude of the 3500
change in bunker demand is much more than needed to tip the HFO 3000
balances from tight to long. 2500
2000
As already discussed, substantial volumes of high sulfur fuel oil will need
to be destroyed and low sulfur compliant fuels created in 2020. To close 1500
that balance, progressively more expensive steps will be taken. At times 1000
in the first few years of the new spec regime, there will likely not be 500
enough deep conversion available for HSFO to clear in the least expensive 0
common refining steps. Consequently, wider spreads between low No content below the line
HSFO Not
Needed for
Additional
Production Due
Consumed in
Planned
Higher Utiliz. In Resid Cat Segregation (Up HFO to Storage HFO to Burning
Existing Cokers Cracking/Dist. to $40-50/Bbl) (~$50/Bbl) ($50-70/Bbl)
Bunkers - To Be Higher Runs Refining ($30-40/Bbl) Yield Shift ($35-
sulfur/light products and high sulfur/ heavy ones will be required to allow Destroyed (<$30/Bbl
Spread)
45/Bbl) Platts
Colors:
more expensive rebalancing steps to be done economically.

On the bottom of our HFO disposition chart is the use of HFO in ships with scrubbers/waivers/non-compliance. That use does not require any
change in prices.
The first tranche of HSFO destruction corresponds roughly to a $30/Bbl HIGH MARGINAL COST STEPS WILL BE NEEDED TO BALANCE IN 2020 BUT
gasoil/HSFO spread in Europe. This is roughly where spreads have been INCREASED SCRUBBERS, CONVERSION, AND SEGREGATION WILL REDUCE
in recent years. And refiners have continued to make capital BUNKER PRICES OVER TIME
investments (e.g., adding conversion capacity to existing facilities, 4500

MB/D
building new deep conversion refineries in growth markets). 4000

$50-70 Spread
Consequently, those spreads are presumably sufficient for refiners to HFO Burn
3500
invest to basically cover normal demand growth. Those investments
3000 $30-50 Spread HFO to Storage
coming on-stream between 2017 and 2020 account for roughly 1.3
MMB/D of high sulfur fuel oil destruction (out of a total of 3 MMB/D that 2500
Refinery Operations
is needed) as described in the refinery balances section of this report. 2000

Planned Conversion
Under $30 Gasoil-HFO Spread
1500
The second tranche of HSFO destruction requires the price of HSFO to 1000 Waivers/Non
Compliance
fall further relative to light products to incentivize less attractive 500 Scrubbers in Use
refining options (~$30-50/B gasoil/fuel oil spread). These varied options 0
were previously described (coker utilization rates, cut point, feed
-500
choices, segregation, etc.) and they can account for an additional 1.2
Platts
MMB/D of fuel oil destruction in 2020.

Colors:
But at times in 2020, these lower cost economic layers will be THE GASOIL-FUEL OIL SPREAD WILL WIDEN AS DISTILLATE DEMAND SUPPORTS
insufficient and the most expensive third tranche will be required. That GASOIL WHILE HSFO DECLINES TO COMPETE INTO POWER GENERATION
involves storage and consumption in land trade, backing out other fuels
Gasoil- Hs Fuel Oil, $/BBL NWE - Rebalance via Refinery Ops NWE - HFO Burn Needed
(HS crude burn, coal or gas). It implies at least a $50-70/B gasoil/fuel oil 80
spread. 70
While prices may be initially in this third tranche, investments in 60
scrubbers and refinery conversion will drive prices fairly rapidly back 50
into the second and even the first tranche. Furthermore, the first two
tranches of accommodation cover ~90% of the rebalancing. It is only 40
the last 10% that kicks spreads higher yet. Although that is our 30
Reference Case, the prediction accuracy of the volumes for the Bunker Specs
20 Shift Demand
individual accommodation steps is not high enough for us to determine
which step applies as the price setting mechanism with high 10
confidence. Consequently, both second and third tranche scenarios are

0
shown in the adjacent chart.
1995 2000 2005 2010 2015 2020 2025 2030 2035 Platts
Colors:
This will be most visibly manifested in the clean-dirty product spread Data color order: Complimentary colors: Footer : Never change the footer text on individual slides. Change, turn on or off
(i.e., gasoil vs. high sulfur fuel oil). This spread averaged around $35/Bbl
GASOIL-FUEL OIL DIFFERENTIALS WILL WIDEN WITH HIGHER OIL PRICES
in 2005-2007 and spiked to over $50/Bb on average in 2008. On a AND/OR BLOW OUT AS NEEDED TO FIND NEW OUTLETS
monthly basis, it peaked at $75-80/Bbl in mid-2008. That was a period
NWEGasoil-Fuel
Gasoil Minus HS Fuel Oil, Nominal
Oil, $/Bbl
characterized by tight conversion capacity (e.g., reported utilization 80
1995 - 2008 Tight Refinery Conversion
rates in U.S. conversion were over 85%). A shortfall of diesel/gasoil in 2009 Capacity
70
2008 was the key catalyst that drove light-sweet crude prices higher in 2010
pursuit of high diesel yields and low resid yields. Sweet crude spiraled 60 2011
2012
up, gasoil-fuel oil blew out and gasoline cracks suffered as the refinery 50 2013
industry strained to match diesel demand amid a gasoline demand 2014

40 2015/16
falloff (i.e., due high prices). 2017
30
2015-16
But since then, spreads have been in the $20-30/Bbl range. The 2011-14
20
recession gave a pause to demand growth and allowed surging 2017 2010 Ample Refinery
Capacity
conversion capacity to more than catch up. Conversion capacity 10
2009
utilization rates have been much lower (e.g., ~80% as reported in the 0
U.S. – even before the shale boom). No content below the line 0 20 40 60 80 100 120 140
Brent Price, $/Bbl NW Europe Platts

Colors:
For 2020, the situation looks similar to 2008 in some ways in that Data color order: Complimentary colors: Footer : Never change the footer text on individual slides. Change, turn on or off
conversion capacity will be straining to balance. If refiners could do it alone, gasoil-fuel oil spreads might be similar to what we saw in 2008.
But as already discussed, refiners will most likely not be able to fully close the balance and that will drive spreads even wider. Even though the
industry has more lead time than we did in 2008, it is not enough to build new units. And the size of the change (~3 MMB/D) is much larger
than the diesel demand pull/sweet crude short in 2008.
Another difference between the 2020 situation and 2008 is that absolute crude price levels are expected to be much lower. In general, price
spreads are narrower at lower absolute price levels (e.g., HFO is bounded on the low side as it approaches parity with other fuels). Also, coker
economics require wider spreads at higher absolute prices. This occurs because cokers are effectively buying resid at a modest discount to
their crude price but then rejecting a substantial part of those molecules as very low value petroleum coke. So when crude prices are higher,
that loss in revenue is worse and thus requires wider spreads to keep the units operating economically.
In looking at the gasoil-fuel oil spread as a function of Brent price, there are two clear historical trends. Up through 2008, the spreads tracked
on a relatively higher slope line. That was a time of nearly full utilization of conversion capacity with growth in heavier crude production and
declining fuel oil demand.
GASOLINE AND DIESEL CRACKS WILL HAVE TO STRENGTHEN TO
INCENTIVISE PRODUCTION TO COVER SHORT FALL
More recently, spreads tracked on a line with a shallower slope. That
was a period of generally ample conversion capacity, slower growth in $/BBL GASOLINE DIESEL
medium/heavy crude and rapid growth in light-sweet, and relatively 40
USG vs. LLS
40
stable HFO demand. 35 NWE vs. Brent 35

Sing vs. Dubai
30 30
With the spec change in 2020, S&P Global Platts Analytics expects
prices will move from near the lower line to beyond the upper line into 25 25
the region labelled “If HFO burn required”, before retreating in 20 20

subsequent years.
15 15
As new refinery capacity comes on-stream post 2020 and with 10 10
increasing scrubber penetration allowing recovery in HSFO demand, 5 5

spreads will narrow. Our outlook has spreads back near "normal" levels
in about 3-5 years, but the rebound could be more rapid depending on No content below the line
0
2000 2005 2010 2015 2020 2025
0
2030 2000 2005 2010 2015 2020 2025 2030
the pace of conversion additions. Platts
Colors:
The price effects will be widespread: FUEL OIL WILL INITIALLY WEAKEN TO INCENTIVIZE LESS EFFICIENT COKERS
TO RUN HARDER AND THEN PRICE LOWER TO DISPLACE MARGINAL FUELS IN
 Middle distillate cracks will all increase sharply in 2H19, peak in POWER GENERATION
2020, and then start to ease. $/Bbl
Fuel Oil Cracks
0
 Gasoline cracks will also increase, although not as much as middle -5

distillates. Cat cracking should be operated differently in order to Sing HSFO vs
-10
consume high sulfur feeds and increase distillate production. This Dubai
USG HSFO vs LLS
will lower gasoline production and should increase emphasis on -15
NWE HSFO vs.
reforming operations to backfill gasoline. -20 Brent
-25
 High sulfur HFO cracks will do the inverse of middle distillates,
getting quite weak in 2020. -30
-35
 Low sulfur/ high sulfur spreads will widen sharply.
-40
2000 2005 2010 2015 2020 2025 2030
 Crude quality differentials will track with products, also getting very Platts
Colors:
wide in 2020. Discounts for sour medium/heavy crude will be much Data color order: Complimentary colors: Footer : Never change the footer text on individual slides. Change, turn on or off
deeper relative to light-sweet benchmarks.
 Low sulfur VGO will become more expensive relative to

MEDIUM AND HEAVY CRUDE DISCOUNTS WILL WIDEN BUT THEN RECOVER
crude/products as it is a cheaper blending component for low AS CLEAN-DIRTY SPREADS NARROW
sulfur bunkers than using gasoil.
$/BBL
0
 Light cycle oil will become more valuable. Normally, LCO is

relatively lower value as it cannot easily be desulfurized to 10 ppm
diesel (too many sterically hindered dibenzothiophenes). But lower -5
Mars (30 API) vs. LLS

severity HDS will readily get it down to 0.5% sulfur. This has
implications for refiners who may run larger volumes through their
-10
units at lower severity – effectively increasing volumetric capacity. Maya (22 API) vs. LLS
Furthermore, LCO is aromatic and thus is useful in reducing
compatibility issues when blending with resids. -15
 Higher freight costs will widen all inter-regional arbitrage

differentials. -20
2000 2005 2010 2015 2020 2025 2030 2035
 Refinery margins for deep conversion facilities will increase. Platts

Colors:
Margins for sour low/medium conversion facilities will also Data color order: Complimentary colors: Footer : Never change the footer text on individual slides. Change, turn on or off
increase, but not as much.
The price for the new 0.5% sulfur marine fuel will likely be somewhere LOW SULFUR BUNKERS WILL INITIALLY PRICE UP TOWARDS MARINE
between a blend of gasoil with 1% S HFO, and marine gasoil. Specifically, GASOIL (MGO), BEFORE SETTLING CLOSER TO AN MGO/LSFO BLEND VALUE
a price set at 60% marine gasoil/40% low sulfur fuel oil could be viewed DIFFERENTIAL VERSUS HIGH SULFUR BUNKERS
as a lower bound, whereas a price set at 90% marine gasoil/10% high 600
$/Ton
sulfur fuel oil could be viewed as an upper bound.

500 MGO
Since the market will initially be quite tight in 2020, S&P Global Platts
0.5% S Blends
Analytics expects the price of the new 0.5% sulfur fuel to be close to the 400
MGO/HSFO 90/10
upper bound. In our Reference Case outlook, this corresponds to Brent Blend
plus ~$20/Bbl, or a premium relative to HSFO of $400-500/tonne (basis 300

0.5% S Bunker
Singapore). As a point of comparison, there is an existing (thin) market Outlook
200
for 0.3% sulfur/0.7% sulfur HFO in NY Harbour. Over the last seven MGO/LSFO 60/40
years, those prices have averaged lower than this outlook at Brent 100
Blend
minus $2/Bbl. But that was in a world of oversupply (perhaps closer to

what might happen in 2025-30), not the tight case of 2020. 0
2010 2015 2020 2025
Platts
Longer term, LS bunkers will price near blending parity with 1% LSFO Basis: Singapore Bunker Market
Colors:
and gasoil by 2025 and ultimately lower yet as gasoil use is ultimately Data color order: Complimentary colors: Footer : Never change the footer text on individual slides. Change, turn on or off
reduced being replaced by low sulfur residuals.
Note that these price estimates for 0.5% blends are done in tons (so they are essentially consistent on an energy content basis) and they are
of course blended to sulfur. But they do not reflect variability in market price that could be due to changes in other properties. For example,
some of the new 0.5% blends will be relatively aromatic and others will be more paraffinic. They will also have different viscosities both at
standard temperatures (and even in their viscosity response to changes in temperature). While the impact of these on price will be secondary
to energy content and sulfur, they are likely to have some impact. But it is premature to try to assess that impact until more is known on the
composition of what individual companies will be marketing.
Light-heavy crude differentials will also widen, set by refinery CONVERSION MARGINS WILL SOAR WITH
economics on the margin. These price setting layers are not deep CHANGES IN PRODUCT CRACKS & CRUDE DIFFERENTIALS
conversion, but rather the more moderate layers (e.g., FCC/visbreaking USG MARGINS
in a European refinery exporting gasoline and fuel oil). That requires Constant $/Bbl USG LLS Cracking USG Maya Coking
35
fairly wide light-sweet vs. medium-sour spreads. For heavy-sour, the
competition is versus the sour straight run resids from medium-sour 30
Coking
crudes. On a dollar basis, heavy crude discounts will rival 2008 even
25
though the absolute price levels are much lower.
20
Deep conversion refineries will see much stronger margins as they
produce essentially all light products and no fuel oil, and they can do 15
that using “cheap” heavy high sulfur feeds. Even cracking refineries 10
should see healthy margins. Note that cracking refineries with low Cracking
sulfur resids (either virgin or after HDS) will be choosing whether to sell 5
their sweet VGO/resid into the bunker market or feed it into their cat 0
crackers as both options will be competing for the same feed.
2000 2005 2010 2015 2020 2025 2030
Platts
Furthermore, the spec change needs higher crude runs to make enough
Colors:
on-spec products in 2020 and that requires higher margins in even Data color order: Complimentary colors: Footer : Never change the footer text on individual slides. Change, turn on or off
simpler capacity.
Implications for Brent Price Level

It is tempting to compare the upcoming 2020 changes with what occurred in 2008. Superficially it seems a reasonable analogy. In 2008, there
was an increase in demand for diesel (e.g., from China in preparation for the Beijing Olympics), there was insufficient growth in light-sweet
crudes relative to medium/heavy grades, and there was not enough conversion capacity to bridge the gap. Gasoil/diesel cracks surged, HFO
cracks collapsed (as did gasoline cracks). The market appeared to be bidding up the price for Brent in a desperate search for sweet crude. Or
so the story goes.
But on closer inspection, one point stands out: light-heavy crude differentials hardly increased at all. If the problem was truly a pure refinery
issue, with a lack of conversion capacity, then differentials should have widened markedly. It is hard to conceive of refiners driving light crude
up from ~$70 to $130 in pursuit of sweet without leaving the undesired heavy-sour prices deeply depressed.
More likely, 2008 was an example of a moderate-sized refinery imbalance story which was then greatly exaggerated by market exuberance.
Investors purchased oil futures in search of speculative profit. The open interest in oil is so much smaller than in equities or bonds, that a
comparatively modest change in portfolio can overwhelm oil. Remember that in 2008, the stock market was already heading lower while the
steep backwardation in oil provided a substantial return on the monthly roll in commodities funds even without any change in outright price.
The situation in 2020 looks different. From a crude perspective, the HIGHER CRUDE THROUGHPUT WILL LEAD TO A SPIKE IN OIL PRICES, WHILE
world has a large and rapidly growing supply of light sweet shale crude. WEAKER FUEL OIL WILL WIDEN THE HEAVY-LIGHT SPREAD
Also, the bunker issue is not expected to be long-lasting. Furthermore,
2008 PRICE SPIKE HISTORY 2020 FORECAST A VERY FAINT
North Sea grades which underpin the Brent contact (Forties) have too $/Bbl
ECHO OF 2008
much sulfur in their resid to make on-spec bunker fuel. All this deflates 140
No Change in
Brent
140
Quality
arguments about scarcity which might attract speculative interest in Spreads
US
Disconnect
120 Mars 120
Brent. From the refiners’ perspective, crude differentials should widen Wider Quality
such that the economic choice between sweet and sour matches Maya Spreads
100 100
supply. Refiners need not bid price levels higher. Rather they should just
bid differentials wider to hold themselves even. 80 80
The one physical impact on balances is that with some HFO going into 60 60
storage and some pricing low enough to compete in power generation, 40 40

that effectively increases demand for oil and thus it increases the US in Export Parity
demand for crude. Higher demand for crude will be supplied from OPEC 20 20
Jan-07 Sep-07 May-08 Jan-09 Sep-09
on the margin (the only source of spare capacity over the short term).
2004 2008 2012 2016 2020 2024 2028
Platts
And it will take tighter balances and higher price levels for that to occur.
Colors:
Given that, and the likelihood that speculators/investors will still try to take advantage of the change, Brent prices are likely to spike
somewhat, perhaps $10/Bbl or more at times. For 2020 as a whole, our outlook conservatively has an increase in Brent price of roughly $7/Bbl
above the trend line. No one knows the magnitude of the price spike as it will be driven by sentiment more than anything else, but it is likely to
be much more subdued than what was seen in 2008.
2019 Will Be a Year of Transition

The spec change in 2020 will cause changes in the physical markets in REFINERS AND TRADERS SHOULD EXPECT THE CHANGE TO START
2H19 (build low sulfur stocks, purge high sulfur ones). Pricing will move IMPACTING MARKETS IN MID-2019
before that and many have questioned how large will that initial 2015-2018 2019 2020
movement be and what will structure look like. The question is one of Key Strong demand growth, tight Some new refinery Global bunker spec change
pace. Features refinery capacity/poor
refinery ops in Latin Am.
startups; logistical
preparations for 2020
severely challenges the
downstream
Demand +1.8 MMB/D +1.7 MMB/D Shifts 3 MMB/D HSFO to
distillate/LSFO
As refiners/blenders run down HS stocks, it will depress price. That will
Refining +1.2 MMB/D +1.0 MMB/D +1.4 MMB/D with plus runs to
trigger previously uneconomic steps to begin taking effect. For cover distillate short and
example: HSFO to power gen
Trade US exports increase to 1.5 Increased pull on LS HSFO arb to Asia shuts;
MMB/D of gross crude and crude to Asia/Europe ME/Asia short low sulfur
 Refiners will see an incentive to buy straight-run resid (SRR) and 1.2-1.3 MMB/D of net
gasoline/jet/diesel
in 2H19
back out crude to feed their cokers. Stocks Distillate build 2015, draw HSFO stocks drawn in Distillate short; HSFO stock
2017 2H19; distillate stock build
build in 2H19
 Higher coker margins will lead to higher coker run rates, even in Price Strong margins from Stronger sweet/light Brent bid higher; all light
less efficient capacity. No content below the line
gasoline & HFO cracks; softer crude and products in product cracks soar; HSFO
then recovery for middle 2H19; weaker HSFO in cracks very weak
distillates 2H19 Platts
Colors:
 Refiners running sweet resid to coking/asphalt will start to take up

sour instead. Data color order: Complimentary colors: Footer : Never change the footer text on individual slides. Change, turn on or off
PRICES WILL MOVE EARLIER THAN THE SPEC CHANGE WITH RAPID CHANGES
 Many other currently uneconomic steps will progressively become IN 2H19
attractive as HFO price drops. $/Bbl
40
In short, the entire layer cake of disposition options will kick in. The 30 Rotterdam Diesel Crack vs
Brent
most expensive steps in that list are long term storage and burning in 20
power generation. Our outlook does not dip all the way down to those USG Gasoline Crack vs LLS
10
layers in 2019. That will happen in 1H 2Q20 as the less expensive steps
are exhausted. Consequently, the price impact will gather pace in 2H19 0 Mars vs LLS
but will not peak until 2020 when the less expensive balancing -10
mechanisms are already fully utilized. -20

Maya vs LLS
-30 Rotterdam HFO Crack vs

Brent
-40
No content below the line -50

Jan-18 Jan-19 2020
Platts
Colors:
Comparisons versus the Forward Curves

Although S&P Global Platts Analytics has been saying that spreads will
THE FORWARD CURVE HAS SEEN A RESPONSE IN THE HSFO PRICE BUT NOT A
dramatically widen with the change in bunker specifications (since CORRESPONDING MOVE IN DIESEL
PIRA’s 2008 study: “Bottom of the Barrel”), and a growing consensus in
the refining industry is that this will occur, forward markets have been 650
$/MT
slow to reflect those views. 600 Diesel
550
In September 2016, prior to the announcement of 2020 as the
500
implementation date (instead of the 2025 alternative date), forward Forward Curves as
450 of:
curves did not show any impact for 2020. By September 2017, nearly a Sep-16
year after the date was announced, gasoil still showed no impact while 400
HSFO
HFO only had a minor step down in 2020. More recently, as of March 350 Sep-17
2018, the step down in HFO is much larger (350 $/T to 215/Ton in 2020). 300 Mar-18
Those forward curve prices for 2020 are equivalent to $30-35/Bbl. While 250
that is approaching our outlook for the year average, it is still well above 200
the likely minimum price near $20-25/Bbl. But diesel forward curves still 150
only show a very minor uptick in 2020. No content below the line Jan-17 Jan-18 Jan-19 Jan-20 Jan-21
Contract Month Platts
Colors:
Even looking at forward diesel cracks relative to Brent (which is Data color order: Complimentary colors: Footer : Never change the footer text on individual slides. Change, turn on or off
backwardated), they show only a mild increase in 2020. That is not THE FORWARD CURVE CLEAN-DIRTY SPREAD IS STILL MUCH NARROWER
THAN PLATTS ANALYTICS OUTLOOK FOR PROMPT PRICES IN 2020
logical. If HFO prices collapse without a corresponding increase in
lighter products, refining margins in primary distillation would turn $/MT
650
sharply negative. And that is something that cannot persist as refiners
600
would sharply cut crude runs. Annual Averages for 2020-21 Outlook
550
Our outlook has diesel increasing from $615/T in 2018 to $815/T in 2020. 500
S&P Platts Forecast
450 (Prompt Market)
S&P Global Platts Analytics’ outlook for the clean-dirty spread is thus 400
Mar 18 Forward Curve
much more dramatic for 2020 than current forward curves. Note that Sep 17 Forward Curve
350
spreads start to shoot up in mid-2019, peak in 2020, then come off for Sep 16 Forward Curve
2021. 300
250
With the forward curves not yet reflecting the full impact for 2020, there 200
are some trading opportunities here. Structure in particular will shift as No content below the line 150
we approach 2020. Sep-16 May-17 Jan-18 Sep-18 May-19 Jan-20 Sep-20 May-21
Platts
Colors:
 Commercial storage of HS HFO will be forced out in 2H19, resulting Data color order: Complimentary colors: Footer : Never change the footer text on individual slides. Change, turn on or off
in weak prompt prices. But expectations for 2020 will be even WHILE THERE IS AN APPARENT BLOW OUT OF THE LS-HSFO DIFFERENTIAL IN
weaker (as prompt will need to be weak in 2020 to be disposed into 2019 THERE IS LIMITED SHIFT IN THE CLEAN PRODUCT CRACKS
power generation). So HFO structure stays backwardated in 2019
LS – HS HFO LIGHT PRODUCT CRACKS
before becoming contango out past 2020. $/Ton $/Bbl
120 20
 Some HSFO will go into extended storage, but that will not likely be 100
18
reversed until prompt HFO recovers after 2020. That storage play ICE LS
16
will limit the prompt price decline in 2020, but will extend it a bit in 80
Gasoil vs
Brent
14
2021/22 when it comes out of storage. NYMEX

12
60 RBOB vs
10
Brent
 Storage of gasoil and LS HFO will build in 2H19 in anticipation of the 40
LS-HS 8
ARA HFO,
event. That will pull prompt prices higher, but with the forward $T 6
curve for 2020 likely to be higher yet, it should still prove economic 20 4
(contango in 2H19). 2
0 0
Jan-18 Jan-19 Jan-20 Jan-18 Jan-19 Jan-20
 Gasoline and naphtha will also become physically tight in 2020, but No content below the line
Contract Month Contract Month
Platts
their forward crack curves barely reflect that yet. They are not *Forward Curves as of March 2018
Colors:
likely to build inventory until later in this story, probably not until Data color order: Complimentary colors: Footer : Never change the footer text on individual slides. Change, turn on or off
4Q19 after refinery maintenance season. Gasoline stocks normally build then, but with strong margins and higher runs likely in 4Q19, they
will probably build more than normal before becoming tighter in 2020 when gasoil really spikes and pulls yields away from gasoline.
Regional Differences Will Change East-West Arbs for HFO and Gasoil
A large proportion of global bunker sales is currently in locations with limited capability to produce low sulfur streams for bunkers. These
bunkering locations will need to change their sources of supply to meet the new regulation.
Singapore: Singapore is the world’s largest bunkering market, but has no refinery coking facilities (nor are any planned) and limited heavy oil
desulfurization. It will require imports of lower sulfur bunkers. It may lose some market share for bunker sales as it will need to pay more to
get those compliant blending components and that will hurt its competitiveness. Shippers are pretty ruthless in their pursuit of the lowest
cost bunker suppliers along their trade routes.
However, Singapore currently imports about 80% of the fuel oil used to meet its current bunkering demand. Going into 2020, this will change
to lower sulfur and/or distillates and blends, and may increase even further as a percentage of sales. But the country’s status as a bunkering
hub is not likely to drastically change as its strategic location as well as efficiency, transparency, and infrastructural advantages will help it to
retain its importance.
Come 2020, Singapore barge operators may have to install separate pipes and mass flow meters for different types of marine fuel or they
may need to have dedicated barges for a single grade as not all compliant fuels will be compatible and they have to be kept segregated to
avoid contamination.
Fujairah: Fujairah in the UAE is also a major bunkering location and it too currently has limited access to refining facilities able to produce low
sulfur material, although heavy oil desulfurization facilities are being planned at a refinery in Kuwait. Those facilities are primarily geared
toward producing low sulfur fuels for power generation, but might be used as a source of low sulfur bunkers if there is a significant price
incentive. Additionally, although it might be politically challenging, it is conceivable there could be some importing of low sulfur
crudes/feedstocks into some Middle East facilities specifically for the purpose of producing low sulfur bunkers.
Europe: With regard to other locations, Western European crude runs are expected to continue to be challenged due to declining local
demand, but the need for low sulfur bunkers will require Europe to run more low sulfur crude than presently while backing down more on high
sulfur runs in the context of any overall runs reduction. With North Sea production declining, this added low sulfur crude would presumably
come from North or West Africa and especially from the United States.
China: China, on the other hand, is building desulfurization and conversion facilities and should in concept be able to handle higher sulfur
crudes than they presently process. This could free up West African crude which Europe needs. The limit for this approach will likely be sulfur
specifications on light products for domestic use which are tightening. Many existing facilities will likely be stretched already and would have
difficulty changing to a higher sulfur diet.
But China has other options in that much of its indigenous crude is medium to heavy gravity and low sulfur (Daqing crude is 32 API and 0.1%
sulfur with roughly 600 MB/D of production). In total, China has roughly 2 MMB/D of low sulfur crude accessible to coastal refiners which
collectively contain 1 MMB/D of 0.5% low sulfur atmospheric resid. That resid is currently used to feed conversion/asphalt units. Some of it
could instead be sold into the bunkers market. To do so would probably net light-load China’s conversion units (given their limited ability to
handle higher sulfur in those plants). And thus, China would tend to under produce light products. Gasoline would be the product of most
concern with strong local demand growth and minimal surplus currently. Any major diversion of local sweet resid to bunkers could require
gasoline imports to balance. Although that is quite feasible technically (China has a history of importing mixed aromatics for gasoline
blending), it could require a change in government regulations which limit gasoline imports at present.
There are facilities available in China for both domestic bunker sales or for export. Zhoushan, a municipality-level city in Zhejiang province
(between Shanghai and Ning Po), has China’s largest concentration of storage for crude and petrochemicals (over 125 million barrels). It is
reportedly interested in expanding its bunkering operations.
Furthermore, China is currently long on gasoil and exports significant volumes. Those volumes will readily be absorbed in the regional
markets including into Singapore.
Japan: Japan is not currently a major bunker center. But it has substantial resid desulfurization facilities. These were originally built mostly to
make low sulfur fuel oil for power generation, but have since been repurposed into refinery conversion unit pre-treatment facilities (to help
meet low sulfur diesel and gasoline specifications). It is likely that some of these could be shifted back into fuel oil service. S&P Global Platts
Analytics estimates that there is roughly 100 MB/D of underutilized VGO/resid HDS capacity which could potentially be used. That could
provide LSFO both for the modest local bunker market and perhaps more likely as an export to Singapore.
Korea: South Korea is a mid-size player in the Asian bunker fuel market with annual sales of about 7-8 million mt. Refiners in the country are
ramping up investments to destroy high sulfur resid and boost production of lighter and lower sulfur products. Investment plans include resid
desulfurization, resid upgrading, and solvent de-asphalting.
Latin America: Similar to the Middle East, Latin America may need to import some low sulfur crude (or process more of their local lower
sulfur grades rather than exporting them). Panama imports its bunker supplies and will likely seek low sulfur bunkers from the United States.
Argentina is another example in that they run local medium-heavy sweet crude with the resid going to conversion and ~35 MB/D of low sulfur
fuel oil production which is used domestically in power generation. That could possibly be freed up for use in the bunkers markets if given
sufficient economic incentives.
United States: The U.S. is relatively well positioned, with low HSFO production due to its very large coking capacity, although some refiners
do produce HSFO which is exported. Local sweet crude production is another asset. Additional high sulfur VGO/ high sulfur resid feedstocks
produced in Latin America/Middle East/FSU that do not have a home in the declining HSFO blending pool might be accommodated by minor
debottlenecking of existing U.S. conversion facilities and by ensuring that sweet resids do not go into those facilities.
Finally, as stated earlier, resid FCC in the U.S./Europe offers some flexibility for substitution of high sulfur resid/VGO for low sulfur resid (with
some limitations), thereby generating additional material for low sulfur bunkers.
How might regional bunker sales change in 2020?
Sellers near advantaged low sulfur supplies should benefit. These THE SPEC CHANGE WILL SHIFT REGIONAL BUNKER SALES VOLUMES AND
include China (local low sulfur crude), Japan (resid HDS), the United CLOSE THE EAST-WEST HSFO ARB
States (local low sulfur crude but limited yield/segregation difficulties
and limited bunkering facilities), Panama (near the U.S.)
Sellers farther from low sulfur supply will be at a disadvantage. These Rotterdam/
Antwerp
Russia
150
include Singapore (they will likely import more sweet WAF grades as 300
150 NE Asia Total
Korea
well as low sulfur bunker blending components) and Fujairah (which U.S. WC U.S. EC Japan
50
200 100 100 750
100 Spain/Gibraltar
U.S. GC Fujairah China 400
will want to pull distillates and perhaps VGO from Middle East refining, 100
200
150 Hong Kong
850
Panama
particularly once Al Zour reaches commercial operations in ~ 2021). US/Panama Total 100
125 150 Hong Kong
350
800 Singapore
425
Others will have mixed implications. Korea can produce MGO, but its 700
sales of HSFO will suffer. ARA sellers are mostly re-selling Russian
based HSFO, so they would reduce both imports and sales of HSFO.
Although Europe also runs sweet crude, much of the resid will not HFO Arb
700
HS
300?
LS
meet the 0.5% spec neat and would need to be blended with lower No content below the line xxx 2017
sulfur components (gasoil – which is chronically short in Europe). Approx. current volumes of resid bunkers in MB/D xxx 2020 Platts
Colors:
Russia will of course loose export markets for its HSFO, but their new Data color order: Complimentary colors:
conversion and vacuum distillation facilities (vacuum distillation is often build substantially ahead of conversion unit startups in Russia), will
benefit from greater market pull on gasoil and VGO.
With the changes being so abrupt, bunker markets will take time to line-out with new suppliers providing LS bunkers and shippers seeking
consistent supply. Our outlook is indicative of the expected trends, but the ultimate sales volumes achieved by individual bunker centers is
hard to predict given that a lot will depend on individual company (and country) policies.
Implications for West-to-East Trade Flows:
The Singapore area has historically been a major supplier of primarily high sulfur bunker fuels. Excess supplies of HSFO have generally moved
from Europe/Russia and elsewhere in the Atlantic Basin to Singapore, and that has established a price differential with Singapore HSFO
prices above Rotterdam HSFO prices. This arb needs to be positive to cover the transport costs and thereby attract the needed supplies.
However, as high sulfur bunkers are replaced by marine gasoil or 0.5% sulfur blends in 2020, this HSFO arb will close. Inter-regional HSFO
price differentials will narrow. Singapore will need lower sulfur supplies from locations such as China, Japan, Southeast Asia or even the
Atlantic Basin that have or are investing in conversion and heavy oil desulfurization. India will likely supply more distillates to Singapore
instead of pushing them as much into the Atlantic Basin. HSFO in the Atlantic will price to find markets mostly in the Atlantic (e.g., U.S.
cokers, Russia power gen) or just east of Suez (Saudi or Pakistan power gen). Singapore might also price its own HSFO lower to find similar
markets.
Longer term, as the demand for HSFO bunkers begins to grow post-2020 as a result of ships adding scrubbers, the historical Singapore HSFO
arb could return.
Higher Costs for Shipping

The use of higher cost low sulfur bunkers will increase tanker transport INCREASED BUNKER COSTS WILL LEAD TO SHARPLY HIGHER FREIGHT RATES
costs by 50% to 100% in 2020 depending on the length of the voyage.
Fleet operators will pass the increase in fuel costs on to their
Transport Cost, $/B HSFO 0.5% @ +$180/ton 0.5% @+$400/ton 0.5% @+$500/ton
customers. Oil transport costs are a function of vessel costs, bunker 4.5
prices, and port charges. When the global sulfur limit on bunkers is 4.0
lowered to 0.5% in 2020, the computation of Worldscale flat rates will 3.5
be adjusted upward to reflect the shift from 3.5% sulfur bunkers.
3.0
Depending on the voyage length, vessel size and price spread, higher 2.5
cost bunkers will add from $1.00-$1.80/B to long-haul voyage costs in 2.0
2020. Consequently, crude and product transport costs will increase 1.5
and arbitrage spreads will widen.
1.0
In addition, with a higher cost for fuel, there could be a further reduction 0.5
in vessel speeds and the early scrapping of some older tonnage, 0.0
VLCC-AG to Asia VLCC-WAFR to Asia Suezmax-WAFR to Aframax-PLC to USG MR-NWE to USAC
depending on the relative health of the tanker sector. And with some No content below the line
UKC
Platts
VLCC’s being used for floating storage of HSFO, that will also tighten up Colors:
ship balances. Together, these effects will raise % WS rates. Data color order: Complimentary colors: Footer : Never change the footer text on individual slides. Change, turn on or off
Finally, since fuel costs for term chartered vessels are borne by the charterer, vessels with scrubbers will command a premium in the tanker
market.
Ripple Effects in the Energy and Shipping Sectors

As already noted, there will be effects and implications for other GLOBAL BUNKER SPEC CHANGE WILL AFFECT OTHER SECTORS /
sectors in the energy space as well as effects for other industries. INDUSTRIES
Listed below are quick overviews of some of the more important
ones: Petchem
» Tighter gasoline due yield shift implies more reforming
 Tighter gasoline supply due to lower quality FCC feeds and » Tighter naphtha implies steam cracker feed preference shift to
yield shifts toward distillates implies that reforming LPG/ethane
» Lower severity FCC (max dist) and lighter steam cracker feeds
rates/margins should be stronger all else being equal.
implies reduced propylene and more incentive for PDH
 Higher naphtha prices imply steam cracker feed preferences Metals
shift toward LPG/ethane. » Higher alternative value for LS resid than into coking increases
price of anode grade coke, increasing aluminum manufacturing
costs
 Lighter steam cracker feeds and lower severity FCC reduce
propylene yields. That incrementally increases incentives for Bulk Trade
» Higher freight costs for containerships, bulk carriers
PDH operations.
» Shifts some trades (e.g., coal to Korea from Newcastle or
Colombia)
 Diversion of low sulfur resid away from coking will tighten
supply and raise the price of anode grade coke as it cannot Retail prices increase for all light products
» Assuming Brent up $7/Bbl, gasoline cracks up $12, diesel/jet
readily be produced using the coke from higher sulfur resids.
cracks up $20+
Anode coke is a key component in the anodes used to » Increases retail gasoline by 45 cents/gal, diesel/jet by 70 cents/gal
produce aluminium. With anode costs accounting for roughly » Reduces demand growth by 0.2-0.4% (onshore diesel) to 0.6-0.8%
10-15% of aluminium manufacturing costs, it is possible that (gasoline/jet)
the bunker spec change would increase the cost to produce » Price impact on demand worse in lower tax countries (US vs.
aluminium by 1 or 2 %. It will also greatly increase the cost of Europe)
waterborne shipping of both finished aluminium and ore/other feeds.
 Higher freight costs for bulk cargo but not for LNG tankers (which use LNG boil off as a fuel) have cost implications for coal versus LNG
use in importing countries.
 Coal supply arbitrages will shift substantially as transport

IN OTHER MARKETS, HIGHER FREIGHT RATES WILL AFFECT TRADE
costs are a relatively high percentage of coal delivered ARBITRAGES AND RESULT IN AN INCREASE IN CONSUMER PRICES
costs (e.g., supplying Korea from New Castle versus
Colombia)
Ton-mile demand and bunkers
 Containership costs increase, but inter-modal shipping
options are generally limited so the changes in trade are
+++
likely small. However, it does directionally favor shorter
supply chains.
o Higher transportation costs for goods will increase

++
the cost of all waterborne imports. If freight increased 150%
the Colombia coal arb
would be firmly shut
 Shipborne scrubber manufacturing companies will see a
surge in business, mostly in the early years. But it could
be as much as 10-15 thousand ships times 3-5 million
dollars/ship = roughly $50 billion dollars over the next 10-
20 years. Financing could be an issue since most No content below the line
shipping sectors have been under financial duress over Platts

Colors:
the last several years.

 HFO and distillate storage will see higher utilization due to: 1) longer term storage plays on HSFO in 2020-2022, and 2) on-going need for
blending multiple components to make the new 0.5% sulfur bunker blends.
 Higher retail prices for gasoline, jet fuel, and diesel due to higher crude prices in 2020 (up $7/Bbl) and light product cracks (up $12-
20/Bbl) will have temporary negative implications for demand growth. Wholesale prices will increase by 45 cents/gallon for gasoline and
70 cents/gallon for diesel. Retail prices will increase less in percentage terms just due to dilution with underlying taxes and
retail/distribution margins.
o With typical elasticities for gasoline demand growth with respect to price near 0.04, then demand growth for gasoline should be
weaker by 0.7-0.8% in 2020, all else being equal. For diesel, elasticities are generally lower due to a larger trucking/industrial
component, say 0.1-0.2. That implies 0.2-0.4% lower demand growth onshore (bunker demand is separate of course). For jet fuel,
taxes are lower and elasticities are fairly high, implying perhaps 0.6-0.8% lower demand impact.
o These demand losses total 0.4-0.5 MMB/D in 2020, partly offsetting the increases due to increased HSFO use in power
generation/storage. Other offsetting increases onshore are for users of high sulfur fuel oil and asphalt who will see price
reductions. But slower onshore light product demand growth will ultimately help to alleviate some of the tension in the market
after 2020.
 Applying these price changes to the vast underlying global demand volumes for gasoline, diesel, jet, fuel oil, and asphalt results in some
truly astounding numbers: the net direct cost of the spec change to global consumers will be in excess of $500 billion in 2020. Those
costs will in effect be transferred to global refiners as before tax earnings.
o Other revenue changes include lower prices paid to heavy-sour crude producers and higher prices to lighter-sweeter producers.
o Total costs from 2H19 through 2025 could be well in excess of $1 trillion
Price Assessment Plans for Bunker Fuels

Globally, Platts publishes a large range of fuel oil assessments that will be impacted by the 2020 IMO sulfur limits. However, the specification
changes will begin disrupting the industry well before the end of 2019.
With the implementation of a 0.5% limit on marine fuels from 2020, Platts intends to continue its role of reflecting developments in global
bunkering markets for price assessment purposes. As part of efforts to do this, Platts opened an extensive period of consultation with the
industry. This consultation resulted in Platt’s developing a two-fold approach.
First, Platts intends to continue publishing its existing high-sulfur and low-sulfur physical fuel oil and marine fuel benchmark price
assessments globally. Following consultation with the industry, Platts believes that these assessments are likely to remain an important part
of the market during and after the global adoption of 0.5% sulfur marine fuel standards - not least because of the expected implementation
of scrubbing technology on some sea-going vessels will allow high-sulfur fuels to continue to be consumed.
Second, Platts will also begin publishing cargo and barge assessments for residual marine fuels, reflecting a maximum sulfur limit of 0.5%
across the globe starting twelve months before the planned introduction of new sulfur limits in marine fuels by the IMO in 2020. As a result,
these assessments will begin to be published from January 2, 2019 for cargo parcels, as well as delivered bunker assessments for the grade
from July 1, 2019. Platts will begin publishing new price assessments for residual marine fuel cargoes for loadings in Singapore, Fujairah, and
Houston, and barges in Rotterdam. In the absence of an active spot market, these assessments would initially reflect information on blend
economics from related fuels.
Following consultation with the industry, these new residual marine fuel assessments are expected to adhere to at least RMG (as defined by
the ISO in document ISO 8217:2010 Petroleum products - Fuels class f - Specifications of marine fuels) or better; but additionally incorporating
a maximum sulfur limit of 0.5% by mass.
Feedback received so far suggests that new 0.5% sulfur residual marine fuel blends are likely to be of lower viscosity than the prevailing fuels
today; a shift that was also observed followed the implementation of 0.1% sulfur limits in certain Emission Control Areas in 2015.
Quality specifications for the new fuel types are expected to become clearer over the coming months as consultation with the industry
continues. Platts will continue to engage with all stakeholders and monitor for new fuel specification standards as they emerge to ensure its
assessments reflect fuel grades that are most widely used.
A link to the Platts Global bunker fuels Methodology and specifications guide, which explains Platts current coverage and guidelines, can be
found here: https://www.platts.com/IM.Platts.Content/MethodologyReferences/MethodologySpecs/global-bunker-fuels.pdf
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consumers to refiners, sweet crude producers, and others. The 5 Distillates

crude/product trade flows will change. 1000

few years as refinery conversion capacity expands and ships add 0

scrubbers. No content below the line

Key implications include:

 Clean-dirty product spreads will widen from under $30 currently to 60

at least $50/Bbl driven by marginal refinery economics. At times, 50

 These changes will begin in mid-2019 as refiners build distillate and 20

 Crude quality differentials will widen dramatically. Heavy, high

very strong margins as crude discounts persist. MGO/HSFO 90/10

SHIPPERS HAVE MULTIPLE OPTIONS FOR COMPLIANCE ........................................................................................................................ 7

BUNKER DEMAND OUTLOOK ................................................................................................................................................................... 10

PRICE ASSESSMENT PLANS FOR BUNKER FUELS .................................................................................................................................30

 IMO 2020 spec changes will happen.

will be small, perhaps a few percent of demand.

Overall, we expect that the vast majority of shipping companies will 5%

replace approximately 3 MMB/D of high sulfur bunkers with lower sulfur

costs by conserving fuel. This caused a significant slowing in bunker 4

But looking forward, we expect bunker demand growth to increase 2

ships account for only a relatively small percentage of the number of

Shippers Have Multiple Options for Compliance

1. Purchase/use compliant fuels

3. Invest in Dual Fuel engines capable of burning LNG or liquid fuels

4. Seek waivers or disregard new standard

Scrubber Installations Should Eventually Restore Substantial RSFO Demand

vessels operating largely in Emission Control Areas (ECA’s). As already Penetration

enactment which we consider very unlikely. Nevertheless, we expect

Number of Scrubbers Installed

Bunker Volume, MB/D

viewed as “standard equipment” rather than an option. 800

Our outlook for scrubber installation is based on that analysis. It Colors:

average increase of 160 MB/D P.A. in HSFO consumption.

conducting LNG bunkering operations in the port of Singapore.

Shell has also signed a long-term supply arrangement with Carnival

capable engines in Europe. Manufacturers are offering duel fuel engines

Bunker Demand Outlook

S&P Global Platts Analytics is assuming 6% of bunker demand will be 0

met by ships with scrubbers by 2020, as limited by vendor capability to

especially in the dry bulk and container sectors.

2020 6% 5% 0% 45% 40% 4%

2020 and then rebounds (due to greater scrubber penetration) to 2

Implementation Issues Associated with Low Sulfur Bunker Fuels

Overall, there are two related problems that need to be overcome:

 Produce enough 0.5% sulfur HFO/blends

 Dispose of ~3 MMB/D of current high sulfur fuel oil production

average API gravity and a consequent decrease in average % resid 44% 85 38

Total Refinery Runs ,MMB/D

650F+ Resid Volume, MMB/D

650F+ content, Vol %

2020 balances. On an incremental basis from 2017 to 2020, 67% of 31.8

as FCC slurry oil/cycle oil.

There is roughly 6 MMB/D of atmospheric resids which are potentially 30

VGO which is their economically preferred feedstock. Similarly, resid 0 0

No content below the line

However, these desulfurization facilities may not all directly contribute

precipitously in response to oversupply in recent years – in principle 30% 30% 30%

In addition, production of middle distillates (including kero/jet

Crude/ Cutter Incr. Shift

demand, and the planned facilities by 2020. It assumes

HS VGO 300 0 (600) 100 (300) (250) (750)

target. A similar shortfall in light products is also not covered.

sulfur bunkers due to a combination of scrubbers and non- Total