By Chen Aizhu and Jeslyn Lerh

SINGAPORE (Reuters) - China's independent refineries are ramping up imports of discounted fuel oil blended from Russian barrels to use as low-cost feedstock amid a shortage of government crude oil import quotas for some of them, according to trade sources and data.

Western sanctions over Russia's invasion of Ukraine, including the looming Feb. 5 embargo and price cap on refined products, have been pushing Russian fuel oil barrels eastward into Asia at attractive discounts since last year.

These have been flooding the ship-to-ship transfer hubs of Malaysia and United Arab Emirates' Fujairah since the second quarter of 2022. Traders blend these barrels with other oils to rebrand the fuel oil's country of origin, clearing the way for ship insurance and financing that would otherwise be banned under the sanctions, trade sources said.

Discounts offered on these fuel oil cargoes help to improve margins at Chinese independent refiners and replace crude that some companies are unable to import without quotas, the sources said. The trade also provides a way to get Russian oil to market and bring much-needed export earnings to Moscow.

"We've been looking at Russian fuel oil since December. It is cheap and does not require (crude) import quotas," said an executive with an independent refiner in eastern Shandong province.

The refiner has not received any government crude quotas for the past year or so and buys mostly straight-run fuel oil to produce diesel and gasoline, said the executive, who declined to be identified as he was not authorised to speak to the media.

These blended fuel oil barrels were last traded at about a $5 discount to benchmark crude ICE Brent on a delivered Shandong basis, said one source.

High-sulphur fuel oil values relative to crude have plunged into deeper discounts since the second quarter last year, with cracks hitting record lows at end-October.

China's total fuel oil imports surged to about 1.76 million tonnes in December, highest since September 2021, official customs data showed.

The uptick was driven by a surge in shipments from Malaysia to more than a one-year high at 620,000 tonnes, while monthly imports from UAE rose to 471,000 tonnes, highest in two years.

Meanwhile, direct imports of fuel oil from Russia slipped to 187,000 tonnes in December after peaking at 554,000 tonnes in October, even as total imports from Russia more than doubled year-on-year to 3.1 million tonnes in 2022.

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