Satellites Find China’s Hidden Oil – Analysis

By Michael Lelyveld

Sophisticated satellite photos may have revealed more about China’s energy security than the government has been willing to disclose.

Last month, The Washington Post reported that China appears to be storing far more oil in its strategic stockpile than was previously thought, based on findings by Orbital Insight, a California-based geospatial analytics and software firm.

Using satellite imaging, the company found that China has built four times as many tanks for its Strategic Petroleum Reserve (SPR) and commercial stocks than the industry had estimated.

The analysts also used imaging to detect the amount of oil in each tank from the shadows cast by their floating roofs to calculate how much storage has been filled.

The report concluded that China’s crude oil inventory stood at 600 million barrels (81.85 million metric tons) in May.

The amount is more than double the SPR volume recently reported by China’s National Bureau of Statistics (NBS). At the start of the year, the reserve held 31.97 million tons (234.3 million barrels) of crude, equal to only 36 days of imports, the NBS said on Sept. 2.

The imaging technique of estimating stocks was reportedly tested for accuracy on U.S. tank farms by matching results with inventory data reported by the Energy Information Administration (EIA).

Far-reaching implications

The new numbers on China could have far-reaching implications for the world oil market, although they may also rely on an unequal comparison, since the satellite estimate appears to include both SPR and commercial stocks for refining.

The uncertainty over how much oil China has set aside in its SPR for emergencies is only one of many, said Edward Chow, senior fellow for energy and national security at the Center for Strategic and International Studies in Washington.

U.S. energy officials have been working with Chinese counterparts to stress the importance of transparency and data accuracy for stability in the oil market, said Chow. But progress has been slow.

“They’ve always been secretive about certain kinds of things, and this is an example of one, of course … in respect to stock building in particular,” he said.

Notably, the recent NBS report cites SPR figures that were already nine months old, making it impossible to tell what the level is now.

“Knowing how much oil China has put away could be vital for predicting the future moves of the oil market, from analysts’ perspective. Unfortunately, Beijing doesn’t feel it has to share this vital information with the world,” said a commentary at oilprice.com.

China’s official statements on its stockpile have been sporadic since its SPR program started in 2004.

By contrast, the United States publishes up-to-date monthly details on its SPR inventory on a Department of Energy (DOE) website. As of Sept. 30, its SPR held 695.1 million barrels of crude.

Critical questions

Despite the doubts about China’s SPR figures, the Orbital Insight estimate has raised a series of critical questions.

If China has stored more oil than previously thought, it may have been using less oil than analysts believed. More accurate consumption data could be important for readings on the oil market, the economy and the environment.

Last month, Reuters estimated that China’s implied oil demand in August fell 1.7 percent from a year before to 10.56 million barrels per day.

A larger reserve “means that much of what looked like oil demand over the past couple of years was not a result of higher consumption but of strategic planning,” the Washington Post said.

That recalculation could hold oil prices back in at least two ways, since it challenges assumptions about China’s demand growth while leaving a large stock of oil that could be used to keep prices in check.

The Post cited analysts’ estimates that China has been importing 600,000 to 1.2 million barrels per day more than it needs for consumption.

That volume is of the same magnitude as the proposed production cut of 700,000 barrels per day by the Organization of Petroleum Exporting Countries (OPEC) under a preliminary agreement on Sept. 28 to boost prices.

A shadow over the market

Doubts about China’s demand have cast a shadow over the market as benchmark crude prices have gradually risen from the range of U.S. $45 (303 yuan) per barrel to over U.S. $50 (337 yuan) per barrel since the OPEC deal was announced.

The wild card of undisclosed inventory levels may add to the risks for further price recovery.

“What little demand growth we’ve seen globally may be phantom demand growth, if it comes from Chinese stock build,” Chow said.

Chow noted that China was buying oil to fill its SPR during the years when prices were far higher, suggesting that it will continue to do so now. If prices rise substantially, China could moderate the pace of its SPR imports, he said.

China has previously indicated that its goal is to approximate the standards of the Paris-based International Energy Agency (IEA) for strategic stockpiles by providing 90 days’ worth of import coverage in case of supply disruptions.

While China’s buying will affect world markets, the prices may also influence China’s production decisions and supplies.

China’s hard-pressed national oil companies have cut output at higher-cost fields to stem their losses and boosted imports by 14 percent in the first nine months from year-earlier rates.

Questions on growth

This year’s double-digit growth of imports has been a subject of questions in the oil market for months, long before the satellite imaging report.

“Other indicators are not showing fundamental growth in the economy that would lead to the kind of crude oil import growth that we’ve seen,” Chow said.

In 2015, China’s crude oil imports rose 8.8 percent to 335.5 million tons (6.7 million barrels per day), according to customs reports.

China’s domestic oil production has dropped 5.7 percent so far this year. Output in August of 3.89 million barrels per day was the lowest since December 2009, Bloomberg News said.

It is unclear how high prices will have to rise in order to trigger a restart of China’s marginal oilfields and reverse the growth of reliance on imports.

Chinese oil officials have estimated the country’s average domestic production costs at U.S. $40 (269 yuan) per barrel. Costs at the decades-old Daqing oilfield have been reported as U.S. $45 per barrel.

But Tian Miao, an analyst at London-based North Square Blue Oak Ltd. quoted by Bloomberg, said the price of European benchmark Brent crude would have to reach U.S. $60 (404 yuan) per barrel in order to make production profitable at most of China’s aging fields.

Further weakening expected

There are reasons to question whether the current rally will reach that level anytime soon.

In its latest “World Economic Outlook,” the International Monetary Fund said that global economic growth this year will remain “subdued” at 3.1 percent.

China’s growth is expected to weaken further from 6.9 percent in 2015 to 6.6 percent this year and 6.2 percent in 2017, suggesting no additional spur for demand.

The IMF said its projections are based on the assumption that the average world oil price of U.S. $50.64 (341 yuan) per barrel next year will remain unchanged in real terms for the medium-term period.

There are also reasons to doubt that the OPEC output agreement will result in a significant tightening of supplies.

Output growth in OPEC member countries including Iran, Nigeria, and Libya will reportedly enjoy exemptions from the planned freeze, while it is unclear how far oil companies in non-member Russia will go along.

Caspian Sea resources including Kazakhstan’s Kashagan field are expected to add 200,000 barrels per day to the world supply glut by the end of this year.

Together with the North Caspian’s Filanovsky field, developed by Russia’s Lukoil, the new supplies will reach 500,000 barrels per day by the end of 2017, nearly cancelling out the effect of the OPEC cut, according to a Reuters report.

A moderate increase in world prices is likely to boost output from producers with lower production costs than those of China, limiting price increases and keeping Chinese oil companies in much the same predicament they are in now.

“With higher prices, you would have higher non-OPEC production,” chow said.

OPEC has been trying to reach agreement with non-OPEC producers on restraining output. The group is expected to hold its next formal meeting in Vienna at the end of next month.