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Aug.22, 2016

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TRADING PLACES 86 THE JOURNAL OF COMMERCE www.joc.com Peter Tirschwell AUGUST 22.2016 FOR SHIPPERS OF container cargo, it might seem like a remote or intan- gible issue. An upcoming decision at t he Internat iona l Ma rit ime Organization will implement in 2020 or delay until 2025 a require- ment for low-sulfur fuel to be used globally by all ships, including ones carrying containers. But although the debate until now has been con- fined largely to policy circles, it's easily the most important envi- ronmental rule coming down the pike affecting the container sec- tor. And it would be naive to think it couldn't affect the market, which although driven by supply and demand, inevitably would be jolted by a potentially huge increase in carrier costs. The IMO Marine Environment Protection Committee likely will decide in October whether a global low-sulfur fuel requirement initially approved under Marpol Annex 6 in 2008 will take effect in 2020 or be postponed until 2025, dropping the global sulfur limit from 3.5 percent to 0.5 percent. Currently, vessels operating in emission control areas, or ECAs, on the east and west coasts of North America and the North and Baltic seas must be powered by fuel oil with sulfur content of no more than 0.10 percent. It's a "critical decision that will have profound implications for the economics of shipping," the Inter- national Chamber of Shipping said. "The decision will be highly signifi- cant because the cost of compliant low sulfur fuel is likely to be well over 50 percent more than the cost of residual fuel." That is profound for container carriers for whom bunker can be the largest cost item, more than fleet or overhead, "often exceeding 40 percent of all costs," according to McKinsey. That's why a comment by former APL CEO Ron Widdows at the TPM Conference in 2014 is every bit as true today as it was then: Container carriers "burn a can- dle at home every night. They're burning it, hoping, hoping, hoping that that gets extended until 2025," he said. "When you go from burning bunker to burning a distillate fuel everywhere, you're talking about the better part of US$100 billion, annually, for the container industry alone. Who pays for that? The car- riers today haven't yet figured out a way to pass on the full cost of bunker fuel changes." The IMO released two stud- ies in recent weeks, one an official study concluding that there would be available stocks of compliant fuel available to the market, and a sepa- rate independent study concluding the opposite. To the extent available fuel isn't available when the global cap takes effect, prices will skyrocket and with it costs, a portion of which will get cascaded down to customers. The outcome will be driven by how refiners respond to the demand. Bunker fuel today is largely resid- ual oil, what remains after higher value fuels have been refined from crude. Taking residual grade fuel and making it compliant under the sulfur rules is a stretch for refiners. "There has been to date little to no movement by refiners to produce a bunker fuel for (the low-sulfur) market. To fix that, you are going to have to build massive investment at the refinery level to de-sulfurize," John Mahon, commercial director at Kinder Morgan Terminals, told a Connecticut Maritime Association luncheon in late June. "If you a re going to spend money de-sulfurizing, you're going to choose to upgrade the barrel to something other than resid," he added. "It's a tough one to solve. The short version is we're solving it with a lot of gas oil. As long as oil prices are low, gas oil looks pretty good compared to high bunker prices we paid just three years ago. But if you see oil go back up, and the differences between the two move, it will be a very expensive issue for shipowners." According to the International Chamber, if the global cap gets implemented in 2020, and fuel costs stay at current low levels in effect since the 2015 collapse in oil prices, a mandatory switch to low-sulfur fuel would mean bunker costs for compliant fuel likely would return to their 2014 peak. However, if by 2020 oil prices increase to a level approaching US$70 a barrel, which is still well below the peak in 2014, it's been estimated that the dif- ferential between compliant and residual fuel could spike by as much as US$400 a ton. Will the IMO vote for 2020? "In reality, the decision taken by IMO is likely to be a political one," the Inter- national Chamber said. "Although the cap will apply in the middle of the ocean, where very few people live, it was adopted by IMO mem - ber states in order to reduce risks to human health and to improve the marine environment (sulfur being a cause of ocean acidification). Even if the supply of compliant fuel is projected to be tight, IMO member states might nevertheless conclude that it is politically unacceptable to postpone implementation." In other words, this might not be a subject just for policy wonks much longer. JOC Contact Peter Tirschwell at peter.tirschwell@ihsmarkit.com and follow him on Twitter: @petertirschwell. PUTTING A COST ON LOW-SULFUR FUEL

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