Europe's Diesel Market Hits Crunch Time

Tankers that took a longer route set to arrive; storage in main hub nearly 70 percent full.

Europe's new status as the dumping ground for the world's excess diesel comes to a head this month as mild weather, strong refinery runs and months of building stocks combine.

The glut has been building for months as margins fattened by cheap crude have prompted European refiners to boost output and as exports from new refineries in the Middle East have headed to Europe.

"Europe is not performing. There is lots and lots coming from the Middle East and more tenders for exports from the Middle East and India," one trader said.

Vessels that took a longer trip around the southern tip of Africa to delay their landing are now arriving, and lingering at ports.

At least four 90,000-tonne tankers filled with distillates, which includes diesel and heating oil, are floating outside Europe's Amsterdam-Rotterdam-Antwerp import hub.

Storage tanks there are nearly 70 percent full, according to industry monitor Genscape, while German household heating oil stocks, at 63 percent of tank capacity, are above their five-year average.

The surplus is forcing some storage to move offshore where traders such as Vitol have already leased ships to serve as floating storage.

But the window to make money that way is narrow. The premium of current distillate prices over those next month - known as contango - stood at just $7 per tonne on Friday.

Ship brokers said that with current freight costs, traders need $15 per tonne per month to cover the vessel costs alone.

"If there is no belief in forward prices, then a steep contango can't develop," another trader said. "Each time the prompt goes down, so does the back end of the curve."

STRONG GASOLINE DRAGS DIESEL LOWER
Profits for diesel versus crude oil <LGOc1-LCOc1>, stood near five-month lows and threatened to drop further - bad news for oil refineries but potentially the opposite for many drivers.

"I am not surprised by the accumulating diesel surplus," said Stephen George, chief economist with KBC Advanced Technologies (KBCAF).

"A contributing factor has to be strength in gasoline, which is supporting refining runs and the overproduction of distillates."

Refineries in Europe and Asia have been running at full steam to capture unusually strong profits for gasoline and naphtha, light ends in industry terminology. Refineries in the United States are also just starting up again after maintenance,

Demand for gasoline has soared as low prices encouraged motorists in China, India and the United States to clock up more miles well past the traditional summer driving season.

On Monday, data showed that investor bets on falling diesel prices hit their highest level in at least four years.

Distillate stocks on the U.S. East Coast are 33 percent above the five-year average, according to BNP Paribas. All this is expected to force these regions to export - adding to Europe's glut.

"If light ends go back to more seasonally normal levels, things might not be so bad," another trader said. "But as long as they are strong, you keep building distillate stocks and that's when things can get really bad."

By Libby George and Ron Bousso