Oil Prices Surge Amid 'Ukraine Invasion' While Refining Margins Plummet... "Tense Over Long-Term Conflict"

March 1st Week Stock Market Forecast: $5.7 per Barrel, Down $1.2 from Previous Week
Weekly Drop Largest Since Nov 3rd-4th Week... "Considered a Short-Term Phenomenon"

Concerns Over Earnings Decline if War Prolongs... "Fuel Costs Account for 6% of Sales Cost"

Russian soldiers driving tanks and armored vehicles on a road near Kyiv, the capital of Ukraine, on the 7th (local time). (Image source=EPA Yonhap News)

[Asia Economy Reporter Moon Chaeseok] While international oil prices have surpassed $130 per barrel for the first time in 14 years, refining margins last week recorded their largest decline in four months. The refining industry views the recent drop in refining margins as a temporary factor caused by Russia's invasion of Ukraine, but they are on high alert as prolonged conflict may force management to reconsider operational decisions such as adjusting plant utilization rates.

According to the securities industry on the 9th, the Singapore complex refining margin, a key profitability indicator for refiners, fell to $5.7 per barrel in the first week of this month, down $1.2 from $6.9 the previous week. Until the first week of last month, it had exceeded $7.5 due to expectations of global demand recovery, but it has been declining for five consecutive weeks since. The figures were $7.5 in the first week, $7.4 in the second and third weeks, $6.9 in the fourth week, and $5.7 last week. The timing of the refining margin's downturn coincides exactly with Russia's invasion of Ukraine and the subsequent international sanctions against Russia. Refining margins are calculated by subtracting the cost of crude oil and transportation from petroleum product prices. As crude oil prices rise, refining margins naturally decline. For this reason, the refining industry is closely monitoring whether the war will be prolonged. As demand for petroleum products decreases and refining margins fall, profitability declines, forcing a reduction in plant utilization rates. In the worst case, the utilization rate, which had recovered to the 80% range before COVID-19 as of January, may have to be lowered again, and this is currently under review.

This means that the management policy of increasing crude oil imports since the beginning of the year may need to be completely revised. According to Korea National Oil Corporation's PetroNet, Korea's crude oil imports in January amounted to 94.792 million barrels, an increase of 17.918 million barrels (23.3%) compared to the same month last year. In March-April 2020, when COVID-19 began spreading domestically, the four major refiners reduced their utilization rates from 80.7% to 74.3%, a 6.4 percentage point drop, but the industry explains that the possibility of such measures now is limited. A refining industry official said, "Since contracts made in January will be delivered until March-April, even if refiners want to reduce utilization rates, it will be difficult without securing storage space for the volume." Another official said, "The recent sharp drop in refining margins appears to be due to increased volatility in oil prices caused by the war, but it remains to be seen whether this trend will lead to an overall decrease in petroleum product demand."

The securities sector predicts that the longer the war continues, the greater the financial burden on the refining industry will become. This is because fuel costs, which account for about 6% of these companies' cost of goods sold, are expected to increase. Baek Young-chan, a researcher at KB Securities, said, "Concerns over Russia's suspension of natural gas supplies to Europe due to the Ukraine crisis have led to a surge in demand for alternative products such as crude oil and diesel, while European inventories have significantly decreased compared to the past." He added, "If the Ukraine crisis prolongs, prices of petroleum products like gasoline and diesel are expected to rise sharply." Noh Woo-ho, a researcher at Meritz Securities, stated in a report on SK Innovation's refining division (SK Energy), "It is necessary to consider whether the strength in indicators due to geopolitical risks will positively impact profitability." He explained, "Since 6% of refiners' cost of goods sold is fuel costs linked to oil prices, prolonged high oil prices are expected to increase cost pressures."

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