India Looks to Purchase More Russian Crude Ahead of Sanctions

Ahead of new sanctions on Russian crude, Indian refineries are looking to purchase additional barrels to avoid shortfalls. A Russian price cap is expected to be implemented along with other EU sanctions on seaborne Russian crude imports on December 5, 2022.

The European Union is still working on a price cap but Poland, Lithuania, and Estonia are pushing for $30 per barrel level, which is $10 more than estimated Russian production costs.

Crude oil prices have been under pressure but the last of the crude sales from the U.S. Strategic Petroleum Reserve are approaching. Crude oil inventories in the United States are about 8% below the average level for this time of year, whiles distillates are 11% below the five-year average for this time of year, just ahead of winter.

Refiners continue to look for Russian oil by the deadline for sanctions, set for December 5, 2022. There are several issues, including a price cap on oil, which will keep crude oil flowing from Russia to its customers while capping the revenues that Russia can generate.

For example, if Russia typically sells its crude oil based on a Brent benchmark of $80 per barrel, the cap could reduce the number to $30, providing a smaller profit to Russian producers.

The United States and the United Kingdom have announced that they will provide a grace period for Russian oil shipments. Companies that have purchased Russian oil on or before December 5, 2022 will have until January 19 to unload their cargo.

Therefore, several Indian refiners are looking for cargo that will be loaded by December 5, 2022, and unloaded by January 19, 2023, to avoid any issue with price caps and sanctions altogether.

Which Countries Have Been an Outlet for Russian Crude Oil?

India has been a critical beneficiary of the sanctions on Russia and the unwillingness of many to purchase from Russia. India is considered the second largest Asian crude importer and is a key buyer of Urals crude oil benchmarked from Russia. Urals is a medium to sour grade of crude oil from Russia.

The difference in Opinion on Price Cap

There is a big difference of opinion on the price cap that should be used on Russian-origin oil. While                               several neighbors like Poland want a very tight price cap, the rest of the European Union want to go with the original cap proposal.

The original proposal from the European Commission was for a price cap of no more than $62 per barrel. The disagreement amongst the EU countries has stifled any progress on an agreement.

The EC came down from its original price proposal of $65-70 per barrel. Close neighbors of Russia want to cut off the revenue stream and put in a price cap closer to $30 per barrel, which would cut off revenue from the Russian war effort.

At the moment, there seems to be a standstill as the Poles are uncompromising on the price. The G7 cap is scheduled to start on the same day as the EU embargo on Russian oil imports, December 5. The embargo will go to the heart of the transportation of Russian crude movement.

The goal will be to prohibit companies from shipping Russian oil to insure or finance using western service providers unless the price for the cargo is at or below the cap. Using western shipping vessels is also prohibited.

How to Make This Work

Conceptually it’s not easy to cap the price that Russian crude can fetch and at the same time keep the flow of Russian crude on the market. If the price of Russian crude is capped, there will be less incentive to make crude oil that is sold to reputable companies. Black market oil trading could flourish if the price cap was as low as $30 per barrel.

Oil prices Have Been Falling but are Finding a Foothold

Oil prices have been declining as large amounts of crude oil have been released from the U.S. Strategic Petroleum Reserve. As of October 2022, the Biden Administration has drained 40% of the oil in the Strategic Petroleum Reserve.

There were political rumblings that the Administration had purposely used the SPR to weigh on crude oil prices in order to keep gasoline prices down ahead of the November mid-term elections. The Biden administration sold off more than 200 million barrels of crude oil from the SPR.

While the reserve remains above 400 million barrels, it will take a while to build the stockpile back up to the highs near 650 million barrels last seen in 2020. The Biden Administration also said they would begin to restock the SPR if the price of WTI came down to the $68-$72 region. The selloff in crude oil investing took prices right above that level. (chart)

U.S. stockpiles of crude oil have declined and are now 4% below the 5-year average range for this time of year, according to the Energy Information Administration. U.S. stockpiles are at 419.1 million barrels, excluding those in the SPR.

Distillate stocks, which include diesel fuel and heating oil, are about 11% below the 5-year average range for this time of year. The decline in crude oil and distillate stocks comes despite a decline in demand in the United States.

According to the Energy Information Administration, total demand for products such as distillate and gasoline is down 1.1% yearly. Higher prices for gasoline over the past year and likely higher interest rates are weighing on prices. The only higher area of demand in the United States is the demand for jet fuel, which is up nearly 4% yearly.

What Needs to Happen

Before the price cap is put in place, the EU needs to agree to a level. What has been argued is that if the price cap is well below the current market value, Russian oil will stop flowing. The concept that Poland puts forward that the price cap should be $10 above the cost level could likely significantly reduce the volumes of crude oil produced and exported from Russia.

Finding a careful balance that allows crude oil to continue to flow will be important. If not, the competition for other crude oils will push all global benchmarks higher. This quantity means it will be nearly impossible to cap prices and keep all crude oil prices from rising significantly.

It would also be helpful if the United States could increase the volumes of crude oil produced back to levels near 13 million barrels per day compared to the current 12 million barrels per day produced.

The Bottom Line

In the days leading up to December 5, there are plenty of Indian refiners who are looking to purchase Russian crude ahead of a potential price cap and additional sanctions. India is the second largest importer of Russian Oil in Asia, and it would make sense for India to try to gain access to larger quantities ahead of the sanctions.

The G7 sanctions that are proposed are strict. The embargo will prohibit companies from shipping Russian oil to insure or finance using Western service providers unless the price for the cargo is at or below the cap.

Crude oil prices seem to have found a footing close to the levels at which the United States said they would begin repurchasing for its strategic Petroleum Reserve.

Overall, there is a difference amongst many EU countries regarding the price cap level for Russian crude oil. While most of the EU wants a cap closer to $62 per barrel, Poland and Lithuania want a very low cap to ensure that Russia cannot use its oil to drive its war goals.

The underlying problem is that if a price cap is too low, Russia will curtail crude oil production, and prices will rise worldwide. It’s a very tough balance to keep crude oil flowing while reducing the amount of capital Russia can receive from producing and selling its crude oil.