"I've been coming to Singapore once a year for the last 15 years, and flying in I have never seen the waters so full of idle tankers,"
- Senior European oil trader a day after arriving in the city-state.
Back in November, when the world-record crude inventory glut was still in its early innings, we showed what we then thought was a disturbing image of dozens of oil tankers on anchor near the US oil hub of Galveston, TX, unwilling to unload their cargo at what the owners of the oil thought was too low prices.
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Little did we know that just a few months later this seemingly unprecedented sight of clustered VLCCs would be a daily occurrence as oil producers, concerned by Cushing hitting its operating capacity, would take advantage of oil curve contango to store their oil offshore indefinitely.
However, while the "parking lot" off Galveston has since normalized, something shocking has emerged and continued to grow half way around the world, just off the coat of Singapore. This.
The red dots show ships either at anchor or barely moving, either oil tankers or cargo, which have made the Straits of Malacca, one of the world's most important shipping lanes which carries about a quarter of all seaborne oil primarily from the Persian Gulf headed to China, into a "bumper to bumper" parking lots of ships with tens of millions of barrels in combustible cargo.
it is also the topic of the latest Reuters expose on the historic physical crude oil glut which continues to build behind the scenes, and which so far has proven totally immune to dissipation as a result of the sharp increase in oil prices over the past three months.
Indeed, as Reuters notes, prices for oil futures have jumped by almost a quarter since April, lifted by severe supply disruptions caused by triggers such as Canadian wildfires, acts of sabotage in Nigeria, and civil war in Libya. And yet flying into Singapore, the oil trading hub for the world's biggest consumer region, Asia, reveals another picture: that a global glut that pulled down prices by over 70 percent between 2014 and early 2016 is nowhere near over, and that financial traders betting on higher crude oil futures may be in for a surprise from the physical market.
"I've been coming to Singapore once a year for the last 15 years, and flying in I have never seen the waters so full of idle tankers," said a senior European oil trader a day after arriving in the city-state.
As Asia's main physical oil trading hub, the number of parked tankers sitting off Singapore's coast or in nearby Malaysian waters is seen by many as a gauge of the industry's health. Judging by this, oil markets are still sickly: a fleet of 40 supertankers is currently anchored in the region's coastal waters for use as floating storage facilities.
The glut is not only constant but is rising with every passing week: the tankers are filled with 47.7 million barrels of oil, mostly crude, up 10 percent from the previous week, according to newly collected freight data in Thomson Reuters Eikon.
What is curious is that the glut is persisting despite seemingly relentless demand by China. Earlier today Bloomberg calculated that 74 VLCCs are bound for China, the highest in 3 weeks, and up from 69 a week earlier. Still the inert glut off Singapore is enough oil to satisfy five working days of Chinese demand, suggesting recent supply disruptions - which have mostly occurred in the Americas, Africa and Europe - have done little to tighten supply in Asia as Middle East producers keep output near record volumes in a bid to win market share.
"The volumes of oil stored at sea in South East Asia - predominantly Singapore and Malaysia - appear to have increased significantly," said Erik Broekhuizen, Global Manager of tanker research and consultancy at New York-based shipping brokerage Poten & Partners. "The current volumes are the highest for at least the last five years."
What is taking place in the oil market appears to be merely the latest disconnect between the paper and physical markets, something quite familiar to precious metals traders in recent years. As Reuters notes, many participants in the physical market dispute recent notes from financial players like Goldman Sachs that forecast a further rise in crude futures. "There has been quite a bit of bullishness from hedge funds in recent months, betting on higher oil prices, and even the analysts at Goldman Sachs have recently turned more bullish on oil prices," said Ralph Leszczynski, head of research at ship broker Banchero Costa.
"Prices are unlikely to rise too much as the specter of glut is still there," he said. However, Leszczynski may be discounting just how powerful algo-driven momentum can be if, or especially when, it is completely disconnected from fundamentals.
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While the sight of tankers at anchor is nothing new, this time something has changed.
Unlike before, when the contango of the oil curve made storing oil offshore profitable, this is no longer the case as contago-funded offshore profits have all but disappeared.
As a reminder, storing oil on ships can be profitable when prices for future delivery of crude are higher than in spot market, a term structure known as contango, as long as future prices are high enough to offset tanker charter costs. However, with the one-year contango for Brent futures collapsing from $7.60 per barrel in January to just $4, far below the $10 that traders say is currently required to make floating storage financially attractive, suddenly parking oil offshore leads to storage losses. The same goes for WTI.
At a charter cost of more than $40,000 a day for a Very Large Crude Carrier (VLCC) that can store 2 million barrels, the contango is nowhere near steep enough to make it profitable to store oil on tankers for sale at a later date.
This has led to a dramatic development in the oil market: debt-funded storage. Reuters writes that the need to store oil is so strong that traders are calling up banks to finance storage charters despite there being no profit in keeping fuel in tankers at current rates.
"We are receiving unusually high amounts of queries to finance storage charters," said a senior oil trade financier with a major bank in Asia. "These queries come from traders fully aware that they will not make a profit from storing the oil. This isn't a trade play, it's the oil market looking for places to store unsold fuel," he added.
So why are the traders doing this?
Simple: they hope that oil prices will rise fast and soon enough where the capital appreciation in crude will more than make up for the incurrence of new debt which will be repaid with proceeds from "selling higher." The risk, of course, is that oil does not rise and should prices tumble, traders will not only have a capital loss on their hands, but be forced to deal with the excess leverage they had hoped would promptly disappear.
To be sure, while we have warned in the past about the danger of offshore storage becoming unprofitable and being brought back onto the land market, in the process launching a liquidation dumping scramble, it has never been this bad. A trade financier at a European bank said there had been a "spike in interest from oil traders to finance their storage needs" since the start of the year as onshore facilities were almost full.
Still, with record amounts of oil stored offshore and with the profit on such storage now shifting into a loss, many are scratching their heads how much longer this imbalanced, and bank funded, situation can persist.
"Floating storage is unattractive economically, given the current term structure in crude futures," BMI Research said this week. Despite this, BMI said that "the volume of crude in floating storage has risen sharply in recent months," adding that the phenomenon was global, with floating storage up 19.5 percent between the first quarters of 2015 and 2016.
"There is clearly still far too much physical crude going around for the glut to be over," said the European oil trader after flying in to Singapore.
The trader's conclusion: "And the paper market seems blissfully unaware of it."
He is right... for now. Because all that will take for even the algos to give up their relentless upward momentum, is for some of these tens of millions of barrels to finally come onshore, which now that contango is no longer profitable, is just a matter of time.
In the meantime, just keep track of the unprecedented parking lot of ships off the coast of Singapore: the larger it gets, the more violent the price drop will be once banks say "no more" to funding money losing charters.