China Oil &Gas:VW scandal ≠Short refiners

Emissions-test scandal is not going to affect profitability ofrefiners. Global diesel demand is predominately driven bythe commercial sector, not passenger vehicles.

    Cost advantage is the key factor for determining choice offuel, in our view, unless you are an environmentalist.

    Investor feedback since our sector upgrade has beenconstructive; most believe sector has limited downside,however without imminent investment catalyst.

    Will the tree huggers please stand up?

    Diesel vehicles account for less than 0.5% of the passenger fleet inChina, whereas its over 55% in Europe, but less than 5% in the US.

    Unless we assume diesel passenger car owners will walk from theirimpacted vehicles, there will be no immediate impact on demand.

    In the long run, we believe economic benefit is the key factor forconsumers when choosing between diesel passenger vehicles andthose that run on gasoline or other alternatives, rather than basedon emissions standards alone. As for commercial vehicles, thereare only a handful of options other than diesel, besides gasoline.

    Remaining alternatives are only in their infancy.

    Diesel and gasoline account for roughly 35% and 21% of theaggregate refined product output, respectively, in China. Even ifthere is a shift in consumption from diesel to alternative energysources, these changes will be subtle while taking place along withthe auto replacement cycle, and will be met with adjustment infuture capex by refiners.

    Diesel passenger vehicles got no love from Chinese consumers evenbefore the scandal, and probably never will. Government promotesnatural gas, elective and hybrid vehicles over diesel passengervehicles, which in aggregate account for close to 0.9% of the totalfleet.

    A long-term BUY without near-term catalyst

    Investor feedback since our sector upgrade has been constructive.

    Most agreed that the sector has limited downside, as fundamentalsand sentiment are near cyclical lows. However despite the longtermvalue, there is no immediate catalyst in the near term. Riskrewarddoesnt justify an immediate shift in positioning.

    Amid the uncertainty in commodity outlook, we continue torecommend Sinopec (386 HK, BUY) for its integrated energy modelas well as NewOcean Energy (342 HK, BUY), an energy distributorwith strong organic growth, high asset turnover and being immunefrom volatility in energy prices.