What do the Saudi attacks mean for Asia?
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The pinch point of global oil supply has long been the Strait of Hormuz, with a fifth of global oil supply moving through the narrow waterway daily. But if a chain is only as strong as its weakest link, then the September 14 drone strikes on key Saudi Arabian oil and gas infrastructure at Abqaiq and Khurais also highlighted the vulnerability of oil markets to an attack on facilities in the Middle East.
My conversations with oil buyers, refiners and traders in our region this week have not only underlined this point but also led to broader conversations about what the current supply disruption could mean through the longer term.
Quantifying Asia's exposure to Saudi export disruption
As we now know, the Abqaiq and Khurais drone attacks led to the immediate loss of 5.7 million b/d of oil supply. This resulted in prices spiking by as much as 20% as traders scrambled to assess how much demand could be met from existing inventories and how quickly damaged capacity could be brought back online. I’ve heard a range of estimates for timescales to restore production at the facilities, but with luck the Abqaib processing plant could be back within weeks.
As a market for Saudi crude, nowhere else matters like Asia. Collectively, Asian demand for Saudi Arabian crude is around 5 million barrels per day, making up almost three-quarters of the country’s exports. Asia’s consumption of Saudi exports is also heavily weighted towards lighter crudes, with Arab Extra Light and Arab Light grades making up around three-quarters of supply. In fact, despite rising tensions in the Middle East, Asia’s dependence on Saudi crude has increased significantly over the past couple of years.
Asia’s buyers – who’s impacted?
Unsurprisingly, it is China, Japan, South Korea and India who are the biggest buyers in Asia. And while China and Japan are most exposed on a volume basis – each averaging around a million barrels per day of imports from the kingdom - it is India that is most exposed, in the short-term at least. I see this for two reasons. Firstly, while China has its Strategic Petroleum Reserve and additional commercial crude storage and Japan has IEA reserves to fall back on, Indian strategic reserves are limited at around 37 million barrels, equivalent to only around 10 days of current consumption.
In addition, while no oil-importing economy enjoys price spikes, India’s consumers tend to be hit harder. Last October the Modi government already cut taxes to protect end-users and so may have more limited room for manoeuvre if prices remain high. The high percentage of Indian spot purchases from Saudi Arabia exacerbates the problem.
When will the market make a full recovery?
This leads us to questions about the duration of the outage. We know Saudi reserves can cover the shortfall over the next few weeks (and around a third of damaged capacity is reportedly already back online), but if full resumption takes longer than filling the gap with the right type of crude quality will be a challenge for Asian refiners who favour lighter crudes (Abqaiq and Khurais are main processing centres for Saudi Arab Extra Light and Arab Light crudes). And turning to OPEC+ is not a silver bullet as output is mostly medium and heavy sour crudes.
For Asia’s refiners and petrochemicals producers, the spike in crude oil prices will dent margins further. As an additional thought, a prolonged outage and/or further upside above-ground risks in the near term could have an impact on the preparation ahead of the IMO marine bunker specifications change, though it’s still early to assess the full impact.
Thinking about the longer term
It’s worth remembering that the world is not short of oil. Not even close, even if the current loss of Saudi Arabian output has obviously tightened the market given global spare capacity is below supply initially lost on September 14. As Saudi capacity is restored, and with additional output coming from the US, Brazil, Norway and Canada next year, in reality we can expect further supply cuts from OPEC+ to balance the market.
But with a growing dependence on Middle East oil imports, particularly from China and India, I do wonder what impact the September 14 attacks will have on the longer-term thinking of Asia’s energy planners. In terms of incentivising domestic oil exploration, this is pretty much a non-starter. Even though the drivers to produce more oil at home are clear, a near-complete lack of domestic significant oil exploration success in the region over the past decade means overall Asian oil output is only going in one direction, regardless of government support.
Supply diversification then comes into focus. The Saudi attacks highlight how vulnerable major energy infrastructure in the region is to relatively simple attacks. Could the dramatic impact of the attacks encourage further strikes? We all hope not but put yourself in the shoes of a risk-conscious Asian buyer and you’re likely discussing greater diversification of supply. And while Asia will remain dependent on Saudi crudes for some time, non-Middle Eastern exporters, including the US, could benefit (I noticed Sinopec increasing shipments of US crude following the attacks, even with ongoing trade tensions).
Looking further ahead, supply disruption and price spikes could also provide policymakers with more momentum in efforts towards greater fuel diversification and a sharper focus on electric vehicles in Asia’s cities. Given the past week’s events, it’s not an illogical argument.