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Improving domestic refining margins, albeit still negative
By Cheng Khoo and Gordon Wai |
July 16, 2012, Monday
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AFTER the last fuel price cut on June 9 in China, the recent drop in international crude oil price has triggered the mechanism for another price cut effective on July 11. The National Development and Reform Commission reduced the ex-refinery price of gasoline by 420 yuan (US$66) per ton from 8,320 yuan to 7,900 yuan, and for diesel by 400 yuan per ton from 7,510 yuan to 7,110 yuan.
The cuts are slightly lower than our anticipated 550 yuan per ton, but marginally higher than Bloomberg consensus expectation of 350-400 yuan per ton. This price adjustment would be the fifth this year, after the NDRC increased prices on February 8 and March 20, and reduced prices on May 10 and June 9.
On a quarterly basis, we believe that refining margins likely bottomed in the second quarter.
Assuming that international crude oil prices remain at current levels and that there are no further price reductions in August, lower crude cost should kick in, and we expect margins to improve further in August, thus lifting the average third-quarter refining margin, albeit it should still be in negative territory.
However, if international crude prices fall further over the next month, refining margins will likely stay flat at current levels or decline further, depending on the level of the price reduction.
Margin expansion
A declining oil-price environment, if followed by a period of stabilization, will lead to margin expansion, given the six-week lag in the Chinese pricing mechanism.
We foresee such a scenario in the current quarter, as we expect no significant downside to international crude oil prices from the current level.
As such, we believe that domestic refining margins bottomed in the second quarter and will likely improve in the second half, a trend that is in line with our expectations.
Despite our assumption that refining margins should improve in the third quarter and the fact that China's CPI declined to a comfortable level of 2.2 percent in June, we believe that introduction of a new pricing mechanism will still be difficult, given that refining margins remain in negative territory.
Since it would make sense to implement a new pricing mechanism only on a positive margin trend, it implies that a price hike would still be necessary. However, given the government's intention to boost the domestic economy gradually, it is unlikely that it will inflate fuel prices more than necessary.
Cheng Khoo and Gordon Wai are analysts with BNP Paribas Hong Kong. The opinions are their own. The article was extracted from BNP Paribas Research Spotlight on Asia dated July 11.
The cuts are slightly lower than our anticipated 550 yuan per ton, but marginally higher than Bloomberg consensus expectation of 350-400 yuan per ton. This price adjustment would be the fifth this year, after the NDRC increased prices on February 8 and March 20, and reduced prices on May 10 and June 9.
On a quarterly basis, we believe that refining margins likely bottomed in the second quarter.
Assuming that international crude oil prices remain at current levels and that there are no further price reductions in August, lower crude cost should kick in, and we expect margins to improve further in August, thus lifting the average third-quarter refining margin, albeit it should still be in negative territory.
However, if international crude prices fall further over the next month, refining margins will likely stay flat at current levels or decline further, depending on the level of the price reduction.
Margin expansion
A declining oil-price environment, if followed by a period of stabilization, will lead to margin expansion, given the six-week lag in the Chinese pricing mechanism.
We foresee such a scenario in the current quarter, as we expect no significant downside to international crude oil prices from the current level.
As such, we believe that domestic refining margins bottomed in the second quarter and will likely improve in the second half, a trend that is in line with our expectations.
Despite our assumption that refining margins should improve in the third quarter and the fact that China's CPI declined to a comfortable level of 2.2 percent in June, we believe that introduction of a new pricing mechanism will still be difficult, given that refining margins remain in negative territory.
Since it would make sense to implement a new pricing mechanism only on a positive margin trend, it implies that a price hike would still be necessary. However, given the government's intention to boost the domestic economy gradually, it is unlikely that it will inflate fuel prices more than necessary.
Cheng Khoo and Gordon Wai are analysts with BNP Paribas Hong Kong. The opinions are their own. The article was extracted from BNP Paribas Research Spotlight on Asia dated July 11.
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