VLCCs can play spoilsport in the LR market

SHigh commodity prices in the product tanker market, particularly in the LR segment, are enticing some charterers to use VLCCs for the CPP trade after tank cleaning. While most LRs carrying oil from the Middle East to Europe are passing through the Cape of Good Hope, the extended voyages have not only increased the cost of shipping but also tightened tonnage supply, supporting LR rates.

While LR rates are rising due to tight supply, VLCC revenues are low amid subdued Chinese demand and production cuts by Middle Eastern producers. In June, the average TCE for LR1s plying the AG-NW Europe route was around $55,000 per day compared to the average TCE of $29,000 per day for VLCCs plying the AG-China (TD3C) route. Higher charter rates in the LR market are prompting charterers to use VLCCs in the CPP trade. For example, Trafigura – one of the leading commodity traders – chartered a VLCC (Plata Glory) to transport oil from the Arabian Gulf to Europe.

Usually, crude tankers carry CPP from the Far East to Europe on their first voyage, as the tanks of a new tanker are clean. However, a limited delivery schedule for crude tankers (five Suezmaxes and one VLCC) in 2H24 will give some time to the bulk product tanker market.

Once a crude tanker starts carrying dirty commodities such as crude and oil, they cannot be used directly in the CPP trade as their tanks are not clean enough to carry clean products. Although crude oil (COW) washing is done to clean the tanks between trips, it is insufficient for the tanks to be clean enough to carry clean products.

The process of cleaning the tank to make a crude tank capable of holding CPP is long and expensive. According to our estimates, the tank cleaning cost for a VLCC, including fuel cost, chemical cost, stage cost, de-sloping charges, labor cost, shipyard cost, off-hire cost, etc., will to be approximately in the range of 1.1-1.3 million dollars. Furthermore, the employment of VLCCs will have many operational limitations. For example, many export/import ports are unable to handle VLCCs. The CPP parcel size for VLCCs (280k tonnes) will be significantly higher than the standard parcel size of LRs (55-80k), so booking at multiple loading and unloading ports may also be a limitation. Furthermore, the possibility of cargo contamination cannot be completely excluded.

To assess the attractiveness of using VLCCs in the CPP trade, we considered a hypothetical case where a charterer takes a non-eco VLCC with a 1-year charter and uses it in the AG-NW Europe oil trade after tank cleaning. We assume that all contractual obligations are in place and there is no port restriction for VLLCs to charge/discharge CPP.

In such a case, according to our estimate, the freight cost of transporting 280,000 tons of oil from the Arabian Gulf to Rotterdam via the Cape of Good Hope will be $25 per ton compared to the freight rate of $75 per ton for LR that transports 65,000 tons of oil on the same route. A massive $50 per ton difference in freight cost will not only recover the cost of cleaning the tank in a single trip, but also save huge freight costs for the charterer. For oil traders owning crude tankers, the decision to switch to VLCCs/Suezmaxes from crude trading to CPP after tank cleaning will be easier as it will minimize most of the risks associated with employability, parcel size, load quality etc.

Crude tanker employment may increase in the CPP trade as the gap in product freight rates and dirty tankers is wide enough to justify the change. However, any influx of large crude tankers in the CPP trade will calm rates in the LR market as a VLCC will displace at least four LR1 tankers.
Source: Drewry