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Shipping sulfur regulation requires sea change in oil industry

There are numerous difficulties in regard to the implementation of the International Maritime Organization (IMO) sulfur 2020 regulations. Effective Jan. 1, 2020, the IMO set a global limit for sulfur content in commercial marine bunker fuel used on board ships to reduce the sulfur content from 3.5 percent to 0.5 percent.

This is a significant reduction in the sulfur content level of commercial marine bunker fuel and global refiners don’t have enough desulfurization capacities to keep up with demand. In the past, global shipping utilized as fuel what remained after the refining of oil into products such as gasoline. IMO 2020 will bring a massive reduction in such use.

My intention here isn’t to discuss the significant cost on the shipping industry in general and oil tankers specifically, but the ultimate question of what will happen once IMO 2020 comes into force. There is total agreement that desulfurization capacity is lacking. So what will be done to manage this tectonic shift to low-sulfur commercial marine fuel oil?

Initially there will be a huge increase in demand for middle distillates. These are refined oil products that are heavier than gasoline but lighter than heavy fuel oil, such as diesel and marine gasoil. Middle distillate markets will tighten substantially. In fact, even before the introduction of IMO 2020, amid firm global economic growth there is already stress on the middle distillate market. Global commercial marine fuel requirements are large at over 5 million barrels per day.

Instead of switching to low-sulfur fuel, ships can be fitted with on-board scrubbers, which remove sulfur from exhaust gases. But progress in installing these is slow, and most tanker owners will, at least in the short-term, be forced to consume lower sulfur fuels. Liquefied natural gas (LNG) as a marine fuel is an option but it is thought that by 2020 only 400 to 600 vessels will be LNG fueled.

Excess global shipping capacity and depressed freight rates have discouraged investment in new LNG-fueled vessels. That has slowed investment in LNG bunkering infrastructure. Located at seaports, LNG bunkering infrastructure includes LNG storage and the provision to fuel vessels. There still is a shortage of such infrastructure, with just 60 supply locations worldwide, although accelerated growth is anticipated. To date, only a handful of large vessel operators have embarked on the process of switching to LNG for fuel. It will be necessary to see how many other important companies switch to LNG in the years to come to have a clearer idea of the real potential of this energy source. It also must be considered that LNG’s CO2 emissions could limit its role as a marine fuel in a deeply decarbonized future.

“The new rules on the lower sulfur content of commercial marine fuel oil are threatening to leave refiners with about 2 million barrels per day of unmarketable fuel oil”
-Faisal Mrza

Although not directly included, IMO 2020 is also part of the strategy to reduce greenhouse gas emissions under the UN Paris Agreement on climate change. Unfortunately, the significant impact on global refining and the shipping industry was not considered. In April, the IMO announced that it would oversee efforts by shipping companies to reduce their greenhouse gas emissions by at least 50 percent from 2008 levels by 2050. This will require a complete redesign of the world’s shipping fleet.

The world’s oil suppliers must evolve to meet these new requirements. The new rules on the lower sulfur content of commercial marine fuel oil are threatening to leave refiners with about 2 million barrels per day of unmarketable fuel oil. Refiners are expected to deal with this to a large extent through investments in new desulfurization and coking capacity, which could mop up some excess high-sulfur fuel oil — if the price is right.

But those investments have yet to materialize. In the short-term, this means that there will be widening product spreads for different types of crude. Light sweet crude oil will be priced much higher than sour heavy. Marine gasoil is widely available, but has always traded at a high premium to marine fuel oil. And some geographies may face greater challenges than others. For instance, Singapore could become a net importer rather than a net exporter of gasoil, drawing diesel from Europe, which already has a large distillate deficit. After 2020, it should be expected that steep price fluctuations may boost hedging. It should also be expected that refiners will begin blending fuels to keep sulfur levels and costs down for marine bunker fuel oil.

In conclusion, desulfurization regulations will create an unprecedented challenge for the world’s oil market. With many uncertainties revolving around the implementation date and the ultimate level of compliance, there will definitely be a “scramble” as global shipping approaches IMO 2020.