The party's over
Chinese purchasing of crude for storage will slow sharply in September, knocking out another prop in global oil demand
Beijing's record-breaking purchasing of crude oil will likely slow from September as it nears the top of current capacity of its strategic petroleum reserve (SPR).
China's total oil demand rose by more than 2%, year on year, in June, to more than 11m barrels a day. That's already somewhat lower than previous years' trend growth. But a campaign to stash crude has inflated even those figures- and is about to end. It's an ugly notion for the oil market.
After buying in at a rate of around 1m b/d-a pattern that helped lift global prices off the floor-a consensus of China-watchers believes the National Development Reform Commission, which manages government and enterprise stockpiles, has decided low crude prices are here to stay.
That means China doesn't need to rush to meet its long-term target of 90 days' worth of reserves, a level that would bring it in line with net-importing International Energy Agency (IEA) members. Analysts from JP Morgan Chase, a bank, have penetrated the wall of silence maintained by China's energy agencies about the status of the SPR and estimate that total oil in stock had hit around 400m barrels in May, equivalent to 53 days of net crude imports. "This volume might be close to the capacity limit," estimates analyst Ying Wang.
It may be that China has simply run out of storage, according to JP Morgan's research. The country's total capacity is estimated at around 0.511m barrels and, at the rate of purchasing in the first half of 2016, this volume would be reached by the end of August.
11m b/d China’s total oil demand, June 2016
Whatever the reason-lack of capacity or the NDRC's conviction that crude prices will stay low-JP Morgan believes China's purchasing of crude will soon run into a brick wall. "We do not believe the 16% growth in oil imports in the year to date is sustainable despite a decline in domestic oil production," the bank concludes.
Inevitably, that implies falling international prices, at least for a time. Along with a decline in demand within China for oil, the slowdown in crude buying for storage "could increase near term risks to global oil prices," Wang says. He estimates the impact at about 1.2m b/d.
Buying can be expected to continue through August. Having sifted through the main data points-domestic production, net imports, commercial inventories and refinery throughput, plus discussions with oil traders-JP Morgan assumes that China will continue to purchase crude for the SPR at a rate of 1m b/d through the month.
But thereafter, the numbers imply a decline in imports in September of about 15% month on month.
A fall of that magnitude would be a severe blow to international crude prices, which have been boosted by the stunning rate at which China has built up its reserves in the past two years in defiance of expectations.
In the first five months of 2016 reserves grew at a record-busting 1.191m b/d. China's breakneck purchasing of crude was partly motivated by the pressure to stockpile against future shortages at the behest of IEA and other organisations.
As investment bank Barclays points out, in February, for example, China imported a record 8m b/d of crude, up by some 21% from a year earlier, despite weaker internal demand growth.
“We do not believe the 16% growth in oil imports in the year to date is sustainable despite a decline in domestic oil production”
Increased capacity is also considered part of the reason for this abrupt burst of buying, since it coincided with the completion of new storage capacity at Zhoushan and Jinzhou. As more storage capacity comes on line, the government has pledged to build stocks equivalent to 90 days of its average import requirements by 2020.
If Chinese buying slows as expected, India could plug at least some of the gap. Having been under pressure to establish its own SPR, the country is scheduled to complete its first storage facilities toward the end of this year.
Underground caverns are being constructed in Mangalore and Padur in southern India and the third will be located in Visakhapatnam. Between them, they will hold around 39.1m barrels, or 13 days of net oil import coverage at 2015 levels.
Like China, India is also aiming for 90 days' coverage and the Indian Strategic Petroleum Reserves Company, which operates under the umbrella of the Oil Industry Development Board, is planning to build capacity for another 91m barrels by 2020.
As the US Energy Information Administration reported in July, "this will drive demand for crude oil".
And although China has been making the pace in the last two years, the IEA has urged other countries in the region to top up their tanks too.
With India setting an example, it's inevitable that others will follow suit and take up at least some of the slack from international markets.