Huge Sanctions Are Looming for the Fuel That Powers the World

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An unprecedented portion of the global oil market, the main fuel of the global economy, is just weeks away from being subject to aggressive sanctions.

From February 5, the European Union, the G-7 and its allies will try to put a cap on the price of Russia’s fuel exports – the latest punishment for its invasion of Ukraine. This will coincide with an EU ban on almost all imports of Russian oil products.

Similar measures have already been put in place for the country’s crude shipments, but it is the capping and banning of refined fuels – and diesel in particular – that has some oil market watchers concerned about the potential for higher prices.

Before the invasion of Ukraine, Russia was Europe’s largest foreign supplier of fuel, and the continent has continued to buy in large volumes until the end. As a result, the sanctions are likely to see a major shift in global oil flows – helped by new buyers of Russia’s crude sending the fuel to Europe. In the short term, there is a risk of higher prices.

“The loss of Russian barrels is huge and replacing them will be a huge logistical challenge,” said Keshav Lohiya, founder of consultancy Oilytics. “But the market is pricing in less panic as markets and trade flows have proven resilient. This will be a new change of the oil route.”

The European Union will have to replace about 600,000 barrels per day of oil imports, and Russia will have to find new buyers for these supplies, store fuel on ships or cut production at its refineries.

READ: Where will Europe get its oil in three weeks?

Shipments to the EU from the US and India have already been increasing as they produce more than they consume, allowing them to export their quantities. China is also expected to send more fuel to its nearby markets, indirectly pushing cargoes from other suppliers to Europe.

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“Product flows from net long regions will intensify after the continent’s embargo on Russian products takes effect on February 5, which we see complicating a tight oil situation,” Bernstein analysts including Oswald Clint wrote in a note to customers.

India’s role in supplying Europe is evident because it has become one of the biggest buyers of discounted Russian crude since the outbreak of war.

A huge increase in Indian oil flows, however, would ensure that Russian crude was being bought and refined into oil in India before being sold back to Europe.

EU sanctions will not completely stop Russian oil from coming to Europe

Such trade would not breach EU rules, but it highlights the inefficiencies inherent in sanctions. Essentially, the hydrocarbons will be transported thousands of miles further than they would normally be – and then back again.

There is also the possibility of more obscure practices, such as re-documenting cargo or sending fuel to refined product storage centers in other regions for mixing with non-Russian products.

So far this winter, the worst predictions of oil shortages have been avoided. Oil, which months ago was the epicenter of oil market strength, has softened thanks to unseasonably warm weather and a surge in Europe.

Crude oil prices fell as sanctions against Russia appeared to alter exports, rather than reduce them.

Among Moscow’s new — or bigger — buyers will be traders in Africa, Latin America and possibly Asia. Meanwhile Europe is likely to turn to the Middle East, where giant new refineries are ramping up operations.

However, the consultant Energy Aspects Ltd. said this week that Russia would be able to find a home for only about a third of its oil exports and that the rest would have to be shut down.

“The product embargo is complicated because Russia has really struggled to get its oil anywhere other than Europe,” said Amrita Sen, chief oil analyst at the consultancy at the United Arab Emirates Global Energy Forum hosted online by Dubai-based Gulf Intelligence.

Refinement problems

This is in the context of a European refining industry that is gearing up for a seasonal round of maintenance work and also facing outages.

A threat of new attacks in France could shut down some of the country’s fuel producers a day after sanctions against Russia take effect.

Two oil refineries in eastern Germany – previously supplied with Russian oil by pipeline – must produce less fuel than they normally would because those flows have been halted.

And staying silent behind all this is a host of logistical and technical issues that could flare up at any moment.

Markets for war insurance for ships flying to Russia remain in crisis after major reinsurers withdrew some of their cover, while oil tanker costs have already risen once on the eve of crude sanctions.

At the moment, there are few immediate signs of panic in the oil markets. The key question in the coming weeks is whether enough heavy lifting can be done to transform the world’s oil flows.

“The market will always sort it out,” said Eugene Lindell, head of refined products at consultancy FGE. “Just how much pain will he suffer?”

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