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Revival in GRMs expected soon…

…to aid OMCs

* OECD’s Composite Leading Indicator, for the past few months, has been showing signs of improvement for certain large economies such as the US, China, and Japan. As a result, after fourteen consecutive months of YoY decline, global petroleum consumption grew 5% YoY in March 2021.

* SG GRM has improved to USD2.4/bbl in Apr’21 (to date) after posting lows of USD0.7/bbl in FY21. Improvement is seen largely in petrol crack spreads – with the commencement of the driving season in the US, the largest consumer.

* Brent, likely to sustain at USD50–60/bbl, would provide ample leeway for oil marketing companies (OMCs) to maintain healthy marketing margins. The current gross marketing margins of petrol/diesel stand at INR0.7/lit / INR4.1/lit. We build in INR3.3/lit for FY22/FY23. We reiterate our Buy recommendation for BPCL and IOCL and a Neutral rating for HPCL.

Signs of recovery in refining margins

* Petrol crack spreads have moved up to USD8.5/bbl in Apr’21 (from USD3.4/bbl in FY21) with the commencement of the driving season in the US.

* OPEC raised its forecast for global oil demand by 190kbopd for 2021 in Apr’21, compared with that in Mar’21. Diesel crack spreads are also likely to revive with the revival in the global economy.

* SG GRM has inched up to USD2.4/bbl in Apr’21 vis-à-vis USD4.9/bbl / USD3.2/bbl / USD0.7/bbl in FY19/FY20/FY21. We expect SG GRM to revive to USD5–6/bbl, in line with long-term trends. Our earlier reports (link) discuss how the specter of GRMs has resulted in closures globally, which is thereby expected to drive up GRMs

Gross marketing margins to recover

* With the sudden spike in Brent towards end-Mar’21, gross marketing margins of auto fuels declined to INR0.1/lit / INR2.7/lit for petrol/diesel over the second fortnight of Mar’21. In Apr’21, they stand at INR0.7/lit / INR4.1/lit.

* With increased oil supply, we expect Brent to soften to USD50–60/bbl, which would provide further leeway to OMCs to maintain healthy margins for auto fuels.

* We build in gross margins of INR3.3/lit for petrol and diesel for FY22/FY23. This is much lower than INR6.9–7.1/lit in 9MFY21. Our estimates suggest that INR1/lit change in the gross margins of auto fuels would change the EBITDA of IOCL/BPCL/HPCL by 7%/6%/9% for FY22.

Valuation and recommendation

* IOCL/BPCL/HPCL has underperformed the Nifty by 54%/44%/53% over the past year. Concerns have largely been related to poor refining margins and a drop in refining throughput and sales (due to COVID-related demand destruction).

* However, Mar’21 saw a 5% YoY increase in demand for petroleum products – after fourteen consecutive months of decline. With demand revival, we expect SG GRM to revert to its long-term average of USD5–6/bbl.

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