Economies worldwide have been fire-fighting inflation, but a multiplicity of crises have fuelled price increases in a key input – crude oil. The Red Sea attacks, Ukraine drones targeting Russian refineries, and OPEC production cuts have strained crude supplies. Meanwhile, the expected recovery in Chinese and European oil consumption has boosted prices. 

Brent crude prices have consequently recovered from December lows of $73 per barrel to $87 per barrel. Indian oil marketing companies (OMC) stocks previously benefitted from the two-year freeze in fuel prices, and cheaper Russian Ural. The Nifty Oil & Gas surged by  21.6% in the past quarter, while benchmark index Nifty 50 has risen by 3.2%.

For the past month however, OMCs have faced difficulties in sourcing cheaper Russian oil amid tightening sanctions, and are expected to see their margins contract as they buy pricier crude and absorb cuts in petrol and diesel prices by the Indian government.

India’s crude imports shift from Russia to Saudi Arabia and the US 

After the Western sanctions on Russia, India benefited from heavily discounted Russian oil. However, the narrowing price discount of Russian Ural and Brent crude in recent months, coupled with increased scrutiny on vessels carrying Ural crude have limited Indian imports. Saudi Arabia, the major crude supplier to the Asian market, also cut crude prices by $2 per barrel for the Asian market to compete with cheaper Russian oil. India has increased its crude imports from Saudi Arabia to tide over shortages in Russian oil.

India’s crude imports from the US and Saudi Arabia rise to a 4-month high

Ramped-up US crude production amid the production cuts announced by OPEC+ has pushed India to diversify its crude purchases. According to Bloomberg India’s top refineries Bharat Petroleum, Indian Oil and Reliance Industries together have purchased about 7 million barrels from the US for April loading. This will be the highest US crude imports in the past 10 months. However, Russia remains India’s major supplier of crude with nearly 28%  market share in February 2024. 

Rising crude prices hurt refining margins

Recent attacks by Houthi rebels in the Red Sea have led to a build-up of 100 million barrels of oil in international waters. As a result, the cost of freight and risk premiums have increased on the route. A rising number of tankers have also been sanctioned by the US for violating the G7 price cap and shipping Russian oil. According to Goldman Sachs, these events have led to crude prices increasing by $4 per barrel. Higher manufacturing activity in China for March has also hinted at a recovery in China’s oil consumption.  Reduced oil inventory levels in the US have also aided in the recovery of oil prices.

Brent crude on delivery (free on board) prices rise in Q4FY24

The Brent crude free-on-board (FOB) price has increased by 9.1% from $77.4 in December 2023 to $84.5 in March 2024. India, which meets 85% of its oil requirement via imports, has been adversely impacted. 

OMCs’ gross refining margins expected to drop in Q4FY24

Higher crude prices are expected to hurt gross refining margins. GRMs have been buffered due to the drone strikes by Ukraine on Russia, which has wiped off Russia’s 15% refining capacity.  However, gross GRM is not expected to drop significantly in Q4FY24. As a result, the benchmark Singapore GRM has risen to $8.2 per barrel in March 2024 from $5.5 in Q3FY24.

The impact of high crude prices on Indian OMCs is partially offset by increased exports of refined oil to Europe. The low-cost inventory from Q3FY24 might help in sustaining margins in Q4FY24.  Indian OMCs are expected to see a drop in GRM of around $1-2 per barrel QoQ in Q4FY24. The drop in GRMs might extend by another $1-1.5 per barrel in Q1FY25 as new high-cost inventory comes into play.

Singapore's gross refining margins are lower than Indian refiners

Indian refineries' gross margins are currently higher than the standard Singapore gross refining margins. If oil prices stabilise around $85, GRMs are expected to moderate around $7-8 per barrel for major OMCs. 

Price cut due to elections will hurt retail margins

The retail margins of the OMCs are expected to rise from the Q3FY24 lows. Even though crude prices dropped in Q3FY24, high-cost inventory from the previous quarter has resulted in lower retail margins. The rising crude prices in Q4FY24 will constrict retail margins in Q1FY25.

Retail margins are expected to drop post the Rs 2 price cut in diesel and petrol

Even though the retail prices of diesel and petrol have been regulated, the Indian government announced a price cut of Rs 2 per litre on both petrol and diesel effective from 15 March 2024, ahead of the Lok Sabha elections. OMC stocks plunged around 8% on 15 March, after the announcement. The announcement has impacted investors’ belief in the deregulation of OMC's pricing mechanisms. The price cuts will add pressure to retail margins, and at current prices, the Q1FY25 retail margins on petrol and diesel are expected to drop to Rs 5.2/litre and Rs 1.5/litre on petrol and diesel respectively. 

Strategic changes India has made to its oil suppliers have so far limited the impact of high crude prices. However, with constraints on Russian oil and rising prices, Indian OMCs will see a significant contraction in margins. Government intervention and high debt levels of the OMCs will further limit profitability.