On a Libyan farce, refining capacity & Kentz

Atop its contribution to geopolitical spikes and dives in the price of the crude stuff, an episode that unfolded over the past four weeks in Libya was nothing short of a farce. However, pay heed to a crucial figure mentioned in a precis of events detailed here. On March 11, Libyan armed rebels, who have been blockading the country's key ports on the pretext of demanding a greater share of oil export revenue since last July, decided to ratchet things up a notch.

The so called Cyrenaica Political Bureau loaded up 234,000 barrels of the finest Libyan Light Sweet on to a North Korea-flagged oil tanker Morning Glory at the port of Sidra, defying orders from Tripoli. The then (but not anymore) Prime Minister Ali Zeidan threatened action calling the move an act of piracy.

Going one step further, Zeidan said he'd bomb the tanker if it left Sidra! Thankfully while a bombing didn't take place, a naval blockade did. Yet, a brief tussle aside, the tanker escaped Libyan waters intact. Then rather dramatically North Korea said the tanker was "no longer" under its flag.

No sooner had it departed Libyan shores, the egregious Zeidan saw himself scurrying to seek sanctuary in Germany, after being charged with "mishandling of the situation and embezzlement" by his peers in the General National Congress; the country's acting parliament. No claimant came forward for the cargo in international waters. Finally, a US Navy Seals squad boarded the tanker south of Cyprus and commandeered it back to Libya putting an end to the sorry tale!

Farcical the episode might well have been, but it did flag up one crucial figure – 234,000 barrels. That's roughly what Libyan daily output is currently averaging down from a pre-July 2013 figure of 1.4 million barrels per day (bpd). The latter itself is well below levels seen prior to the uprising.

Now on to the prologue – this week, as a "goodwill gesture", the Cyrenaica Political Bureau allowed two ports – Zueitina (south of Benghazi) and Hariga (East) to revert back to Tripoli's control. Ras Lanuf and Sidra would also reopen soon, according to the Libyan National Oil Corporation. So tension may well be easing as is reflected in the Brent price over the past few days. However, one thing is for sure, this 'post-Gaddafi democracy' Western governments have created, surely has no fans in the importers brigade!

From upstream unpredictability in Libya to the predictable and rather mundane global downstream world, as BP announced it would cease production at its Bulwer Island refinery on the outskirts of Brisbane, Australia by the second quarter of 2015.

The reason for closure is similar to reasons outlined for closures and refining & marketing divestment on the other side on the planet in Europe – i.e. lower consumption in developed markets coupled with the opposite being true in emerging markets. Economies of scale provided by mega-refineries from China to India that are cheaper to operate, make the likes of Bulwer Island, with a relatively tiny capacity of 102,000 bpd, uncompetitive.

Or to quote Andy Holmes, president of BP Australasia: "Market reality is that global refining capacity is shifting to service the energy growth areas of the globe and is doing so with very large port-based refineries. We have concluded that the best option for strengthening BP's long-term supply position in the east coast retail and commercial fuels markets is to purchase product from other refineries."

And in line with that sentiment, Holmes said Bulwer Island refinery, which has been refining since the 1960s, would become a multi-product import terminal. That's not a new concept either as Caltex is about to do something similar with its Sydney refinery. Additionally, Shell has exited the Aussie refining business altogether shuttering its Sydney refinery and selling the rest of the portfolio to Vitol.

As of now, BP is still holding on to its 146,000 bpd Kwinana refinery on the Aussie west coast. But one wonders for how long? The news does not surprise this blogger. The Oilholic and several supply-side analysts have been harping on for a while that capacity additions will be necessity led in pockets of the globe where there is a need, and even these won't be very profitable enterprises.

According to Moody's, only a modest rise in global demand for refined products of 1.2 million bpd is expected over 2014-15. Most of it would be met by net capacity additions in the Middle East and Asia. In fact, if projected Chinese capacity additions alone are taken into account, we're looking at a figure of above 1.2 million bpd through to 2015. A Middle Eastern guesstimate would be similar and we haven't even taken India into the equation. These additions would dilute earnings growth for the whole sector.

Moody's says the end result could mean flat growth over the next 12 to 18 months in Europe, with a pressing need for meaningful capacity rationalisation to prevent margin erosion in 2015 and beyond. Asian refiners would see a 2% EBITDA growth this year, while their North American counterparts could retain their advantage over competitors elsewhere, with cheaper feedstock, natural gas prices, and lower costs contributing to 10% or higher EBITDA growth through mid to late 2015.

However, Moody's reckons refiners with a big presence in California, including Valero and Tesoro, would face tougher days in 2015, when the state's environmental rules become stricter (Read The Oilholic's March 2012 note from San Francisco for more, follow-up to follow soon)

Finally, Latin American growth for refined products will remain strong through mid to late 2015, with few capacity additions, but the region's reliance on costly refined product imports will hold back EBITDA growth to no more than 2%. Colombia's Ecopetrol is the only player likely to add regional capacity, however modestly, by 2015. Ironically, it's the one region that could do with additional capacity. Anyone from Pemex or Petrobras reading this blog?

Just before one takes your leave, a news snippet worth flagging-up – engineering services provider Kentz will see its chief financial officer Ed Power retire in May following 24 years of service. His cool hand at the till along with that of former CEO Dr Hugh O'Donnell (whom this blogger had the pleasure of meeting at the 20th World Petroleum Congress in 2011) was crucial in guiding the company out of troubled times and into the FTSE 250.

While wishing Power a happy retirement, Kentz has also played an absolute blinder in naming Meg Lassarat, the current CFO of Houston-based UniversalPegasus International, as his very worthy successor. Lassarat is widely credited for driving a five-fold increase in the revenue of UniversalPegasus to over US$1 billion (£603 million). So you can see why Kentz have headhunted her.

Meanwhile, Ichthys LNG project in Australia continues to provide the company with good news. Kentz has bagged a $570 million contract for electrical and instrumentation construction packages at the project.

The latest contract is atop a 50% stake in the structural, mechanical and pipeline construction contract for Ichthys with a headline valuation of $640 million. Put it all together and we're getting close to the $1 billion mark or to quote analysts at Investec – "an addition of 14% to Kentz's order book that underpins visibility into 2017". That's all for the moment folks! Keep reading, keep it 'crude'!

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© Gaurav Sharma 2014. Photo: Refinery, Baton Rouge, Louisiana, USA © Michael Melford / National Geographic

EU’s ‘least worst’ gas supply scenarios & more

The Oilholic spent last Friday evening downing a few drinks with a 'civil servant' of the diplomatic variety who'd returned back from the recently concluded Nuclear Security Summit in The Hague, where the Ukrainian standoff dominated most conversations. But before you get excited, yours truly has no 'Jack Bauer'-level clearance gossip!

However, with 53 nations represented – there were quite a few suits around, and contrary to popular belief, the stiff suits do gossip! Credible intel does appear to suggest that some Europeans did a very fine 'Clinton post-Lewinsky scandal' impression in a geopolitically fresh context which kinda ran like: "We do not have relations with that man Putin." Of course, they were, as Clinton was back in the day, being a little less frugal with the truth.

The Americans already knew that but didn't say so out of diplomatic courtesy, at least not in public. The Oilholic wouldn't have been so courteous, but then yours truly isn't in the diplomatic service. From the Baltics to the Balkans, Russian exports of natural gas dominate the energy spectrum built on hitherto seemingly inextricable relations, whether amicable or not.

Despite promising to diversify their supplies when the Georgian skirmish happened in 2008, not much has changed, as The Oilholic noted earlier this month. As a direct consequence, US sanctions against Russia appear to better structured compared to European ones which look like a rag-bag of measures to accommodate everyone and annoy no one – especially President Putin, who doesn't really care about them in the first place! Most pressing question is – what now for the EU energy equation?

Just as the suits were winding up, Jaroslav Neverovič, Lithuania's energy minister made an impassioned plea to the US to export more gas to Europe as a possible answer. Just as a sub-context, the Baltic States are busy building LNG import terminals. Headline grabbing it may well have been, what Neverovič said, even if realised, would do little to curb European addiction to Russian gas over the medium term.

Supply-side diversity cannot be achieved in an instant, nor can the US solve the problem. If the capacity of all seven US FERC and DOE approved LNG export terminals (so far) is totalled and it is hypothetically (or rather absurdly) assumed that the entire cargo would be dispatched to Europe – the volume would still only replace around 35% of the current level of Russian gas imports to Europe.

But what has changed is that the Baltic nations, as demonstrated by Neverovič, are clearly alarmed; perhaps, more than they were in 2008. The Poles are mighty miffed too and even the Germans are waking up and smelling the coffee. So what's next? American LNG imports will come, while Norway, UK and the Netherlands’ pooled resources could help the trio. 

However, going beyond that, and to quote a brilliant editorial in The Economist, would mean Europeans relying on Algeria, Qatar, Azerbaijan and Kazakhstan which does not seem very savoury. "But the more rogues who sell them gas, the harder it is for any one to hold Europe hostage," it adds! So here's your 'least worst' medium term scenario, preparation for which had to start in 2008 and not in 2014! 

Related to the situation, Fitch Ratings revised the corporate outlooks of nine Russian companies, including those of Gazprom and Lukoil to Negative. As with a situation of this nature there would be losers somewhere and winners elsewhere.

According to the ratings agency, BG, BP, Shell and Total would be among its EMEA rated oil & gas companies that stand to gain from a "potential shift" in EU countries' energy links with Russia over time. On the other hand, Gazprom and Ukraine's Naftogaz – no prizes for guessing – are most likely to find themselves at a competitive disadvantage.

Analysing a scenario where EU countries could be forced to "recast their approach to energy and economic links with Russia over time", as UK Foreign Secretary William Hague has suggested, Fitch said BG, BP,  Shell and Total are well placed.

For instance, BG is participating in three US projects already approved by FERC and DOE to export LNG. BP completed the final investment decision for the Stage 2 development of the Shah Deniz gas field with its local partner State Oil Company of Azerbaijan in December last year. The expansion of the southern corridor gas link to Europe puts these companies in a unique position to diversify EU gas supplies.

Meanwhile, Shell is the first company in the world to develop floating LNG (FLNG) facilities. The technology is an important development for the industry as it reduces both project costs and environmental impact. If Shell is able to replicate the FLNG model it is deploying in Australia to diversify European supplies, it could give the company a competitive advantage over peers.

Finally, Total became the first Western oil major to invest in UK shale prospection after agreeing to take a 40% stake in two licenses that are part of the prospective Bowland Shale in Northern England. The investment could give the company a head start if European shale gas production begins to ramp up in a meaningful way, even though its early days. In fact, its early days in all four cases, and Fitch agreed that supply-side benefits would accrue over time, not overnight.

Going the other way, Gazprom, which supplied around a third of European gas volumes in 2013, faces the prospect of diminishing market share if the EU seeks alternative gas supplies, instead of simply alternative gas routes from Russia around Ukraine. "Europe may finally find the political will to reduce this percentage," Fitch adds.

As for Naftogaz – it's in big trouble alright. Not only could the Ukrainian company face higher prices for gas supplies from Russia accompanied by reduced volumes for internal consumption, the road ahead is anything but certain!

Away from the EU and Ukraine, UK Chancellor of the Exchequer George Osborne dropped a few crude morsels in his annual budget on March 19 to help British consumers and the industry. Fuel duty was frozen again, while passengers on some long-haul flights originating in the UK are set to pay less tax following a revamp of Air Passenger Duty (APD).

Passengers travelling more than 2,000 miles will pay the band B rate, which varies from £67 to £268, Osborne told parliament. The two highest of the four APD tax bands are to be scrapped from 2015, he added. At present, it is cheaper to fly from the UK to the US than the Caribbean, despite often similar distances, a situation Osborne described as "crazy and unjust". So passengers on long-haul flights to destinations such as India and the Caribbean can expect to pay a lower tax rate soon.

Coming on to industry measures, Osborne also put forward a new incentive for onshore prospection, wherein a portion of profit equal to 75% of a company's qualifying onshore capital expenditure will be exempt from supplementary tax charge.

This portion of the profit will then be subject to tax at 30%, while the remaining profit will be subject to a marginal tax rate of 62%, as is usually the case with oil & gas companies operating in the UK. The bold and much needed move went down well in the currently charged geopolitical atmosphere, unless you happen to be opposed to fracking on principle.

Robert Hodges, director of energy tax services at Ernst & Young, said it was welcome news for the shale gas industry which needs to commit significant investment to prove commercial reserves in the UK.

"The Government also announced it will work with industry to ensure that the UK has the right skills and supply chain in place. This is an important commitment, which will be welcomed by industry, to ensure that the UK maximises the benefit from the development of its indigenous oil and gas resources," he added.

As for the North Sea, we saw some moves on ultra high pressure, high temperature (HPHT) fields with Osborne providing an allowance to exempt a portion of a drilling company's profits from the supplementary charge. The amount of profit exempt will equal at least 62.5% of qualifying capex a company incurs on these projects. The Chancellor also said he would launch a review of the tax regime for the entire sector.

Some were pleased, others not so. Maersk Oil and BG, lead operators of the Culzean and Jackdaw fields, are the first to benefit. Both were cock-a-hoop saying it would lead to the direct creation over 700 jobs, with a potential for up to 8,000 more further down the supply chain. However, the International Association of Drilling Contractors (IADC) claims changes over drilling rigs and accommodation vessels would cost firms an estimated £145 million in the coming year. Lobby group Oil & Gas UK also expressed concerns on cost escalation, but welcomed other bits thrown up by Osborne.

Away from it all, there's one tiny non-UK morsel to toss up. According to a recent GlobalData report, it appears that Kenya's first oil & gas licensing round is not expected Q4 2014 at the earliest. The first licensing round was originally scheduled for June last year with an offer of eight blocks up for bidding. Then all went a bit quiet. Now GlobalData says it will happen, but plans have temporarily stalled pending the passage of a new energy bill.

Moving on to the price of the crude stuff, last fortnight was pretty much a case of steady as she goes for Brent, while supply-side issues caused a mini spike with the WTI. And, that can only mean one thing - another narrowing of the Brent-WTI spread to single figures.

Factors in the WTI rear-view mirror included supply shrinkage at Cushing, Oklahoma; down for the eighth successive week last Friday and the lowest in two years, according to the EIA. Libyan, Nigerian supply outages had a bearing on Brent, but it's nothing to write home about this fortnight. Much of the risk is already priced in, especially as Libyan outages are something City traders are getting pretty used to and Nigeria is nothing new. That's all for the moment folks! Keep reading, keep it 'crude'!

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© Gaurav Sharma 2014. Photo: Oil pipeline © Cairn Energy

The Bosphorus, a 'Wild Project' & Turkish politics

The Oilholic spent better parts of the afternoon in pouring rain examining the strategic maritime artery known to world as the Bosphorus, a strait that forms the boundary between Europe and Asia and splits Istanbul.

For nearly 7 hours, yours truly criss-crossed on ferries from Kabataş on Istanbul's European side to Kadıköy on the Asian side, back to Eminönü on European side [where ancient Byzantium was built] and finally a return journey up and back from Rumelifeneri, Sariyer, passing twice under the Bosphorus and the Fatih Sultan Mehmet bridges.

The said journeys ensured this blogger got a true picture of how busy the world's narrowest natural strait is and it's getting busier with oil and LNG tankers going back and forth from the Black Sea. Excluding local traffic, roughly around 132 ships pass through the Bosphorus on a daily basis, making it the second densest maritime passage after the Strait of Malacca. 

The Oilholic is no naval man, but aboard a vessel on Bosphorus - given the blind bends and S-shaped turns - often one couldn't spot ships approaching from the opposite direction at several points. As if natural and geographical challenges weren't enough, the heavy municipal ferry traffic linking Istanbul's European and Asian sides make navigation even trickier.

The photo (on the right, click to enlarge) is an apt illustration - clicked from a ferry one is aboard, zipping past a Greek tanker, behind which is another ferry, behind which is another tanker in the distance. This is a typical day's navigation for captains of ships passing through here on a murky day like today.

On either side of the Bosphorus live around 14 million souls who call Istanbul home. Makes you think – what if there is a collision? According to Istanbul University, modern navigation techniques have considerably [and thankfully] reduced incidents. Nonetheless, since the end of World War II there have been over 450 incidents on record.

Of the 26 incidents classified as 'major', eight involved tankers and almost all collisions resulted in a crude oil, petroleum or other distillate spill of some description. The worst incident happened nearly 20 years to this day, on March 13, 1994 when a Cyprus registered tanker collided with a bulk carrier resulting in 27 deaths, the spillage of 9,000 tons of petroleum and combustion of another 20,000 tons. The blaze lasted for four days and tanker was completely burnt. Not only was the marine environment harmed, but traffic was suspended for several days.

However long ago the incident may have taken place (and there have been others albeit less serious ones since), it chills people here to this day. Most of the oil shipments originate from Russian ports. Local sources say around 2.5 million barrels per day (bpd) to 3.2 million bpd move through the Turkish straits, which include the Marmara Sea, Çanakkale (or Dardanelles, the separation point of the Gallipoli Peninsula from Asia) and of course the Bosphorus.

The cumulative volume for each year almost singularly depends on how Russian exporters shift their load per annum between Baltic and Black Sea ports. So getting his thinking cap on, Turkish Prime Minister Recep Tayyip Erdoğan, just before seeking re-election for a third term in 2011, announced the 'Kanal İstanbul' project – an idea first mooted in the 16th century.

The PM said that ahead of the 100th anniversary of the Turkish Republic (founded in 1923), the nation needed a "crazy, magnificent" project. The idea is to carve up an artificial canal that would be 50km long, 150m wide and 25m deep. Istanbul itself would turn into two peninsulas and an island courtesy of the artificial re-jigging.

The published measurements carry a message. Any structural engineer would tell you that a canal of the above dimensions would certainly be capable of handling very large crude carriers (VLCCs). This would cut the need for suezmaxes (largest ship measurement capable of transiting through the Suez Canal conventionally capable carrying 1 million barrels) from criss-crossing the Turkish Straits as frequently as they do these days.

It could also help Erdoğan, currently facing local elections and umpteen demonstrations, circumvent the Montreux Convention, which gives Turkey a mandate over the Bosphorus, but allows free passage of civilian ships while restricting passage of naval warships not belonging to Black Sea bordering nations. Critics say the PM is looking to bypass the Montreux Convention, but supporters say he's making a case for good business, while appearing to do his bit for the ecology as well.

Alas a pre-election promise of 2011 and one that's morphed into pre-2014 local elections plan doesn't appear to be properly costed. The figure in the Turkish press is US$10 billion. It's sent all the project financiers this blogger has contacted about it scratching their heads. The headline project valuation is just too low for a project of this magnitude, in fact highly improbable, given the lira's fortunes at the moment.

However, a government official told this blogger that "finance won’t be a problem" while another said "it won’t be needed" as the Turkish Government will self-finance with Phase I already underway. Doubtless, some Russian help – if asked for – would be forthcoming. Ironically, it's a Russian financier, whose kids are [of course] studying in England, who told yours truly, "Erdoğan's project cost estimate is as you British say – a load of bollocks!!"

The PM simply describes the project rather mildly as his "Çılgın Proje" or "Wild Project" and by the looks of things, it certainly is wild. Don't know what the final costs would be, but the target is to have it ready by 2023. As for Russian crude, Ukraine stand-off or not, Baltic or Black Sea routes, it'll ship unabated. Last year, just as Rosneft was eyeing acquisition of TNK-BP, the world largest independent oil trading house Vitol and rival Glencore (now Glencore-Xstrata) agreed to lend $10 billion to the Russian giant to help it finance the acquisition.

In exchange, both the trading houses received a guarantee of future oil supply. A simple Google search would tell you, its not the largest oil trading deals in history, but its right up there dear readers. For Erdoğan, a former mayor of Istanbul, the project would be about his legacy to Turkey, along with a third Bosphorus suspension bridge – Yavuz Sultan Selim Bridge – which is scheduled to open in May 2015.

However, right now under his watch Turkey appears to be in a fight for its soul. Erdoğan's "mildly Islamist" (as The Economist prefers to call it) Adalet ve Kalkınma Partisi or AK Party is hugely popular in rural areas but not quite so in urban centres.

Since arriving on March 8, right up and until this afternoon, as the Oilholic prepares to fly out, there have been repeated protests and clashes in Taksim Square. Even if you are a couple of miles away from the flashpoints, the smell of tear gas is around. It all erupted in May last year with mass protests. The political context is well-documented in the mainstream media as is Erdoğan's tussle with his once mentor cleric Muhammed Fethullah Gülen.

The latest casualty in these god awful political melees was 15-year old Berkin Elvan, who died yesterday following 269 days in a coma after being hit on the head by a tear gas canister last year. He didn't commit a crime say locals; he was just in the wrong place at the wrong time, caught in a skirmish while out to buy bread for his mother.

Erdoğan can build his legacy around urban developments, bridges, canals and superefficient shipping lanes, he can put forward uncosted grandiose dreams, but if lives like Berkin's are the price for his fixation to power, then something is inherently wrong with Turkish politics and the way the PM thinks. On this unusually sad note, that's all from Istanbul folks. Sorry for the temporary digression from what this blog is about, but it's difficult not to feel anything. Keep reading, keep it 'crude'!

Addendum, Mar 15: According to a BBC World service report, as further clashes following the death of Berkin Elvan have spread well beyond Istanbul to 30 other towns, Turkish Prime Minister Recep Tayyip Erdoğan has claimed that the boy had links to "terrorist organisations"…Along with most of Istanbul, the Oilholic despairs!

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© Gaurav Sharma 2014. Photo 1: The Bosphorus Bridge. Photo 2: Traffic in the Bosphorus. Photo 3: Tanker in the Bosphorus. Photo 4: Election fever in Istanbul, Turkey © Gaurav Sharma, March 2014.

Turkey's Russian connection: Bazaars to barrels

The Oilholic finds himself in a soggy Istanbul, with Turkey in the middle of election fever and the Black Sea in the grip of a Cold War style stand-off over Ukraine.

Before landing here, yours truly ran in to a Moody's spokesperson at BA's Heathrow T5 lounge. It seems that the ratings agency predictably sees Gazprom and Russia's banking sector taking a hit, if recent notes to subscribers are anything to go by. With 52% of Gazprom's exports to Europe currently routed through Ukraine and the country contributing up to 8% of its revenues, there is trouble ahead. Nonetheless, it can cope pretty well in the face of an escalation.

When it comes to the banking sector, Moody's reckons the aggregated exposure could be as high as US$30 billion. The Kremlin is likely to step in if needs be but it won't be needed as the figure equates to less than 2% of system assets. Interestingly, just before dashing off to our respective flights, our friend from Moody's gently nudged the Oilholic and quipped, "Wait till you get to Istanbul and see NATO member Turkey's exposure to Russia." And so this blogger came, he saw and he wondered!

We'll come to the barrels later, lets start with the bazaars first. Despite the unusually miserable weather, the city is packed with Russian tourists. From the metro to the tourist spots, you cannot escape Russian chatter in the background. "For sale" signs in retail outlets are up in two languages – Turkish and Russian. In expanding its tourism sector and wider economy, Turkey has welcomed Russian tourists and business investments with open arms including a favourable visa regime for over 10 years now.

The results are tangible. With the Turkish Lira in throes of unpredictability, every big ticket item – from designer stuff and marquee labels to high value Turkish handicrafts – is priced by retailers here in euros; with quite a few Russians around with more than a few euros.

Digressing from retail to banks, the exposure of Turkish banking institutions to Russia is harder to quantify as the current macroclimate in the country [not Ukraine & NATO] has conspired to turn the situation fluid. Unfortunately, no one wants to nail a figure on record as forex permutations are making life difficult extremely difficult for the analysts, but off record it is certainly not "as high as Ukraine."

Excluding exposure of Russian banks to Turkish infrastructure project finance exercises, $5 billion to 10 billion is a reasonable conservative guesstimate. From banks, rather crudely to barrels – Russia is Turkey's 6th largest export market. Mostly consumables, textiles and manufactured goods worth $3 billion were exported by Turkey to Russia in 2012.

What came back from Russian shores was $27 billion worth of imports including crude oil, distillates, natural gas and iron and steel that same year. Of the said figure, $17.26 billion were oil & gas imports! Using a dollar valuation at constant exchange rate (which has been anything but constant), we are looking at a 625% jump in Russian "imports" between 2002 and 2012. The said percentage need not be sensationalised as the starting point was a low base, but it gives you an idea of NATO Turkey's exposure to [and reliance on] Russia.

Furthermore, the Bosphorus is a major maritime artery for oil & gas shipments via the Black Sea. Exports from the Russian loading port of Novorossyisk by tankers via the Turkish straits have been rising steadily over the last 10 years. Recognising this, Turkey even has an embassy in Novorossyisk.

Recently, Poland's Prime Minister Donald Tusk, in sync with the Oilholic, was correctly berating Germany for its exposure to Russian gas and why it would give the EU a weaker hand over the Ukrainian tussle.

"Germany's reliance on Russian gas can effectively limit European sovereignty. I have no doubt," Tusk told reporters, ahead of German Chancellor Angela Merkel’s visit to his country. [Ouch!]

Maybe Tusk ought to look at fellow NATO member Turkey too. If the diplomatic row continues to escalate, Turkey would find it very hard to indulge in verbal or economic jousts with Russia. It took a very vocal stand with Syria, but one suspects it may not be the case this time around. Banks, bazaars and barrels could all feel the squeeze – it's what colleagues in the analyst community down here openly acknowledge.

However, you don't need them or the Oilholic. All you need to do is take the tram from Istanbul's Grand Bazaar through to Kabataş, the last stop on the European shore of the Bosphorus, between Beşiktaş and Karaköy. The journey will help you reach the same conclusions unaided by charts, graphs and economic gobbledegook. And here's hoping, the weather is kinder to you than it has been to the Oilholic. That's all for the moment from Istanbul folks! Keep reading, keep it 'crude'!

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© Gaurav Sharma 2014. Photo 1: Eminonu Waterfont, Istanbul, Turkey Photo 2: Greek oil tanker Scorpio passes through the Bosphorus, Turkey. ©  Gaurav Sharma, March 2014.

Crude permutations of the Ukrainian stand-off

When the Russo-Georgian skirmish happened in 2008, European policymakers got a stark reminder of how reliant they were on Russian natural gas. Regardless of the geopolitics of that conflict, many leading voices in the European Union, especially in Germany, vowed to reduce their reliance on Russian gas.

The idea was to prevent one of the world's leading exporters of natural gas from using its resource as a bargaining tool should such an episode occur again. Now that it has, as the Ukrainian crisis brings Russia and West into yet another open confrontation, the Oilholic asks what happened to that vow. Not much given the scheme of things! What's worse, the Fukushima meltdown in Japan and a subsequent haphazard dismissal of the nuclear energy avenue by many European jurisdictions actually increased medium-term reliance on mostly Russian gas.

According to GlobalData, Russian gas exports to Europe grew to a record of 15.6 billion cubic feet per day last year. The US, which is not reliant on Russian natural resources, finds itself in a quandary as EU short-termism will almost certainly result in a toning down of a concerted response by the West against Russia in the shape of economic sanctions.

The human and socioeconomic cost of what's happening in Crimea and wider Ukraine is no laughing matter. However, President Vladimir Putin should be allowed a smirk or two at the idiocy and short-sightedness of the EU bigwigs – reliant on him for natural gas but warning him of repercussions! Therefore, sabre rattling by Brussels is bound to have negligible impact.

Meanwhile, Russia's Gazprom has said it will no longer offer Ukraine discounted gas prices because it is over US$1.5 billion in payment arrears which have been accumulating for over 12 months. Additionally, Rosneft could swoop for a Ukrainian refinery, according to some reports. While economic warfare has already begun, this blogger somehow does not see Russians and Ukrainians shooting at each other; Georgia was different.

Having visited both countries in the past, yours truly sees a deep familial and historic bond between the two nations; sadly that's also what makes the situation queasy. The markets are queasy too. Ukraine was hoping for a shale gas revolution and Crimea – currently in the Kremlin's grip – has its own shale bed. In November 2013, Chevron signed a $10 billion shale gas production sharing agreement with the Ukrainian government to develop the western Olesska field. Shell followed suit with a similar agreement.

Matthew Ingham, lead analyst covering North Sea and Western Europe Upstream at GlobalData, says shale gas production was inching closer. "Together with the UK and Poland, Ukraine could see production within the next three to four years."

However, what will happen from here is anyone's guess. A geopolitical bombshell has been dropped into the conundrum of exploratory and commercial risks.

Away from gas markets, the situation's impact on the wider crude oil market could work in many ways. First off, rather perversely, a mobilisation or an actual armed conflict is price positive for regional oil contracts, but not the wider market. A linear supply shortage dynamic applies here.

An economic tit-for-tat between Russia and the EU, accompanied by a conflict on its borders, would hurt wider economic confidence. So a prolonged escalation would be price negative for the Brent contract as economic activity takes a hit. Russia can withstand a dip in price by as much as $20 per barrel; but worries would surface should the $90-resistance be broken. To put things into perspective, around 85% Russia's oil is sold to EU buyers.

Finally, there is the issue of Ukraine as a major transit point for oil & gas, even though it is not a major producer of either. According to JP Morgan Commodities Research over 70% of Russia's oil & gas flow to Europe passes through Ukrainian territory. In short, all parties would take a hit and the risk premium, could just as well turn into a news sensitive risk discount.

Furthermore, in terms of market sentiment, this blogger notes that 90% of the time all of the risk priced and built into the forward month contract never really materialises. So this then begs the question, whose risk is it anyway? The guy at the end of a pipeline waiting for his crude cargo or the paper trader who actually hasn't ever known what a physical barrel is like!

The situation has also made drawing conclusions from ICE's latest Commitments of Traders report a tad meaningless for this week. Speculative long positions by hedge funds and other money managers that the Brent price will rise (in futures and options combined), outnumbered short positions by 139,921 lots in the week ended February 25, prior to the Ukrainian escalation.

For the record, that is the third weekly gain and the most since October 22. Net-long positions rose by 18,214 contracts, or 15%, from the previous period. ICE also said bearish positions by producers, merchants, processors and users of the North Sea crude outnumbered bullish wagers by 266,017 lots, rising 8.2% from the week before.

Away from Ukraine and on to supply diversity, Norway's Statoil has certainly bought cargo from a land far, far away. According to Reuters, Statoil bought 500,000 barrels of Colombian Vasconia medium crude, offered on the open market in February by Canada's Pacific Rubiales.

When a cargo of Columbian crude is sold by a Canadian company to Norwegian one, you get an idea of the global nature of the crude supply chain. That's if you ever needed reminding. The US remains Pacific Rubiales' largest market, but sources say it is increasing its sales to Europe.

Finally, in the humble opinion of yours truly, Vitol CEO Ian Taylor provided the soundbite of the International Petroleum Week held in London last month.

The boss of the world's largest independent oil trading firm headquartered in serene Geneva opined that Dated Brent ought to broaden its horizons as North Sea production declines. The benchmark, which currently includes Brent, Forties, Oseberg and Ekofisk blend crudes, was becoming "less effective" according to Taylor.

"We are extremely concerned about Brent already not becoming a very efficient or effective benchmark. It’s quite a concern when you see that production profile. Maybe the time has come to really broaden out Dated Brent," he said.

Broadening a benchmark that's used to price over half the world's crude could include Algeria's Saharan Blend, CPC Blend from the Caspian Sea, Nigeria's Bonny Light, Qua Iboe and Forcados crudes and North Sea grades DUC and Troll, the Vitol CEO suggested.

Taylor also said Iran wasn't going to be "solved anytime soon" and would stay just about where it is in terms of exports. The Oilholic couldn't agree more. That's all for the moment folks! Keep reading, keep it 'crude'! 

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© Gaurav Sharma 2014. Photo: Pipelines & gas tank, Russian Federation © Rosneft (TNK-BP archives)