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The International Energy Agency (IEA) has said that fuel oil markets may start tightening next year due to refinery upgrading, Reuters reports.

In its monthly report, the IEA highlighted the possible impact of future refinery upgrade projects saying "fuel oil markets should start to tighten as new upgrading capacity additions outpace falling demand."

Refinery upgrade projects focus on reducing the output of heavy oil products, such as fuel oil, and making more profitable distillate products such as diesel and jet kerosene, which in turn has an impact on fuel oil availability.

Demand for fuel oil has decreased in a number of developed countries in recent months. In China, for example, high import costs have stifled demand from local power plants and refineries. Despite government subsidies to about 30 power plants in the southern province of Guangdong, China's manufacturing hub, demand for fuel oil from southern China dropped in May after an initial buying spree by utilities in March and April. Power plants in Guangdong purchased around 1 million tonnes of fuel oil in May versus 1.2-1.4 million tonnes the previous month.

The IEA said distillate supply tightness would still be evident next year, but it may ease due to expansion work at Chinese refineries.

"The Chinese refinery expansions noted above are forecast to reduce Chinese distillate imports over the cause of 2008 and restore China's net export status during 2009," the IEA said.

"However, rising import requirements in OECD Europe and Latin America will keep the pressure on refineries to maximise middle distillate yields where possible."

Demand for distillates in the Middle East, where a number of new refinery projects were expected to come on-stream, might outpace local refinery capacity, IEA report said.