How the shunning of Russian oil leaves a hole in the market

While the US and its allies have ratcheted up sanctions to punish Russia for its invasion of Ukraine, they’ve mostly held back from targeting its energy exports. Nevertheless, Russian crude is being shunned in what some traders are calling “self-sanctioning”.

Because of confusion about what’s legally permitted, fears about future import bans and concern about reputational damage, banks are pulling financing, buyers are holding back and tanker operators are reluctant to ship. The squeeze is starting to have the same effect as an embargo.

Since Russia is among the world’s top three exporters, it’s leaving a big hole, sending the price of oil rocketing. 

1. What’s causing the disruption? 

With financial sanctions on Russia imposed by the US, UK and European Union, market participants are wary of taking trades with Russian counterparties, even if the energy market itself has been exempted. Many oil tanker owners - often companies with relatively small compliance departments - are taking a conservative approach until the full picture is clear.

That’s a killer blow for Russian oil, a mainstay of the country’s economy, because almost two-thirds of its crude sales move by ship. Some traders are also mindful of negative publicity. Shell’s purchase of Russia’s flagship Urals grade crude on Mar 4 was criticised by Ukraine’s Minister of Foreign Affairs Dmytro Kuleba on Twitter as smelling of “Ukrainian blood.” 

2. What’s the impact on prices? 

As buyers scrambled for alternative supplies during the initial days of the invasion in early March, the oil market went into a frenzy and Brent crude topped US$110 a barrel for the first time since 2014. More significantly, the market went into one of the biggest so-called backwardations on record -- where contracts for more immediate supply are priced much higher than those for later deliveries.

After US Secretary of State Antony Blinken said Mar 6 that the US and its European allies were discussing a possible ban of Russian oil imports, prices surged further. Brent rose to US$139 a barrel, the highest level since 2008, with some traders betting futures will rise above US$200 before the end of March.   

3. How much oil is being shunned? 

The situation is fluid. But Energy Aspects, a consultant, estimated that about 70 per cent of Russian crude trade was frozen on Mar 2.

Russia has been exporting approximately 5 million barrels a day of crude, the equivalent of about 5 per cent of global consumption, as well as nearly 3 million barrels daily of refined products - key fuels such as diesel, fuel oil and a petrochemical feedstock known as naphtha.

Once it’s clearer what the full range of sanctions are, Energy Aspects said before the possibility of a US import ban gained steam, the amount of Russian crude trade that’s frozen may drop to about 20 per cent as traders step in in Asia. 

4. How exposed is the US? 

No economy is unaffected by soaring oil prices and US pump prices for gasoline and diesel have already hit their highest levels since 2008. But it is relatively shielded from physical shortages. In 2021, the US imported an average of 199,000 barrels a day of Russian crude.

When petroleum products such as distillates and fuel oil are added to the crude, US imports from Russia reached 672,000 barrels a day on average in 2021, data from the Energy Information Administration show. 

5. What could plug the hole?

The International Energy Agency, which represents key industrialised countries, announced plans on Mar 1 to deploy 60 million barrels from stockpiles around the world. Half of that amount will come from the US Strategic Petroleum Reserve, with the rest from members in Europe and Asia, according to details released by the IEA.

The planned release equates to about 17 days’ worth of frozen Russian crude shipments and additional volumes may be made available. IEA member countries hold nearly 1.5 billion barrels of government-controlled oil stockpiles. 

6. Could more oil come from other sources?

There are several possible sources of additional supply. There are hopes that Iran could inject oil into the market, should world powers succeed in their efforts to secure a new agreement with the country limiting its nuclear program in exchange for the US lifting sanctions that have restricted its oil exports.

So far, the Organization of the Petroleum Exporting Countries and its allies have declined to accelerate their output. At meeting in early March, the group stuck with the modest 400,000 barrel-a-day production increase it had earlier scheduled for April.

There is also spare capacity in the US, where producers have been limiting growth in recent years under pressure from investors. The US has also been in talks with Venezuela, signaling a possible major shift in the US approach to the socialist government.  

7. What are the implications for Russia’s energy industry?

US President Joe Biden’s administration has said it’s seeking to degrade Russia’s status as a leading producer of oil and natural gas by restricting exports of technology related to the energy sector.

Some of the world’s largest oil companies, including Exxon Mobil, BP and Shell, have pledged to exit Russia, reducing capital available for investments. Paris-based TotalEnergies SE said it wouldn’t dump operations in Russia for now but will no longer provide capital for new projects there.

It owns roughly a fifth of gas producer Novatek PJSC as well as a large interest in the Yamal LNG project, Russia’s biggest producer of liquefied natural gas.

8. What’s happening with Russian gas exports?

While oil shipped from one country can to some extent be replaced with barrels sourced from elsewhere, natural gas imports are harder to substitute. That’s because there’s a huge infrastructure network that relies on piped supplies from Russia.

The alternative, cargoes that are cooled into a liquid and delivered by ship, cannot come close to compensating. As a result, Russian gas is still being sent by pipeline to Europe, which relies on Russia’s state-run energy giant, Gazprom PJSC, for about a third of all gas consumed. 

9. Does Europe have longer-term options?

Potentially, yes. The European Commission, the executive branch of the European Union, is working on measures to try to wean the bloc off Russian gas, although some would take years to implement.

In a report, the IEA said the EU could, without compromising its climate ambitions, reduce Russian gas imports by a third by sourcing more of the fuel from other countries, accelerating the rollout of renewable energy and ramping up efficiency.

Proposed measures include increasing electricity derived from nuclear power and replacing gas boilers with electric heat pumps.