INSIGHT: Make money while you can

03 April 2009 16:19  [Source: ICIS news]

By John Richardson

SINGAPORE (ICIS news)--Asian polyolefin prices have risen steadily over the last few months, defying predictions that economic fundamentals would cause a sharp correction.

Modest restocking by end-users following the great inventory disaster of last year has been behind the price rally – as has greatly improved credit in China (see below for details).

Major price-drivers have also been stronger crude – which has risen by around 20% since the beginning of this year – and firmer naphtha.

Refineries have made big operating rate adjustments and the profitability of gasoline and other fuel products has rebounded, adding to the strength of naphtha spot premiums.

Increased naphtha spot-market activity and reduced term supply have also contributed to the strength of premiums.

Cheaper naphtha over natural gas has resulted in Indian fertilizer and power plants switching from natural gas to naphtha feedstock. This led to a fall in Indian naphtha exports in Q1.

 A major refinery turnaround programme in Northeast Asia – due to come to an end at the end of May – has also limited feedstock supply.

 Constant further delays in the commissioning of new Middle East petrochemical plants – and in stabilising operating rates of plants successfully started up – is another factor behind strong pricing.

And another reason for the delays might be the difficulty in placing volumes as demand is so severely weakened.

Asian petrochemical producers made substantial operating-rate cut backs earlier this year which has also sustained the price rally, said producers and traders.

Even the South Koreans made deep rate cuts in December as the won declined against the US dollar, forcing them to run on inventory, said several producers.

Operating rates appear to have since crept up, but balancing this extra supply is a large number of turnarounds in Asia in March, April and May and the usual production problems.

The outage at the SECCO cracker in China has, for instance, helped to drive olefins prices higher.

The Asian price rally continued last week. Low-density polyethylene (LDPE) film grade, for example, rose by $60/tonne over the previous week to $1,050-1,040/tonne, according to ICIS pricing. Prices were at $950-980/tonne cost and freight (CFR) China four weeks earlier

Raffia-grade polypropylene (PP) was up $120/tonne to $970-1,020/tonne CFR China compared with $850-900/tonne CFR China a month earlier.

But will the price-rally last?

“I think that from July we are going to see some sharp downward corrections,” said a second polyolefins trader.

He might be right, according to other traders and some producers and buyers.

To start with there’s the argument that crude can’t go much higher.

“Oil prices have been rising steadily since the start of the year,” said Paul Hodges of the UK-based chemicals consultancy International eChem on his blog, Chemicals & The Economy.

But US oil inventories are at their highest level since 1993 and stocks have risen 22 out of the last 26 weeks.”

OPEC production cuts have helped stabilise the market, but global crude-oil demand is expected by 3.2% in 2009 over last year, he added.

“Financial market sentiment is strong as traders continue to believe, as they have done all year, that demand is about to recover.”

Will demand get better? Monday’s stock market slump – on news that the US government had rejected the General Motors rescue plan – pointed to how the economic news, and therefore demand destruction, could keep getting worse for the rest of 2009. 

The result was that crude fell below $50/bbl after breaching that level the previous week on optimism that the worst of the crisis might be over.

“You can’t swing a cat without hitting a barrel of crude (in storage) in the US,” wrote the authors of the Schork Report, the daily energy and shipping markets newsletter.

“According to the latest estimates from the Federal Highway Administration, in January Americans drove 7bn fewer vehicle-miles travelled, or 3.1% less, compared to a month earlier. That was the first back-to-back decline for January since the 1981-82 Recession.”

Most forecasters believe that crude will average between $45-55/bbl for the second half of this year.

Naphtha is set to become a lot longer, according to oil and gas consultancy Purvin & Gertz.

Asian supply will increase by 20-30% in H2 due to increased exports from India, greater output from one Middle East condensate splitter and the start-up of another splitter, it predicts.

China could also start exporting finished goods at very low prices in the second half as it tries to unwind inventories.

Semi-finished goods and finished-goods manufacturers are receiving low-interest rate loans in order to keep production high – almost regardless of demand, ICIS news has reported.

Reports are even emerging that factories have been told to run hard if they want to still receive financing from the state-controlled banks. 

This appears to be part of the government drive to minimise job losses.  

“In addition, the yuan (CNY) 4 trillion ($585bn) Chinese government stimulus package has led to a big build-up in speculative inventories down every product chain from chemicals to finished goods,” the second polyolefins trader added.

And a converter said: “I see limited benefit from the stimulus package. Some grades of PE will be boosted directly from infrastructure and construction work – for instance, wire and cable.

“But with an estimated 30m migrant workers laid off, the net benefit delivered to consumer spending might be fairly modest.”

Despite the project delays, there is still a lot of Middle East polyolefins being commissioned this year.  

China is scheduled to add 4.55m tonne/year of ethylene capacity in 2009, according to CBI Research & Consulting.

Some of China’s new plants could also be delayed, though, and how they operate needs to be closely watched

“There has also been an increase in exports from the US to China as Asian prices have been comparatively much higher than in the West,” the second trader added.

“The strength of the euro has made it difficult for European producers to take advantage of strong arbitrage. We should a see a lot of this (US) volume arriving in China in April and May.

“Although some of these shipments have already been placed with end-users the psychological effect on the volumes being talked about in the market could be big.”

Offers from the US had increased for April and May delivery but there had been very few fixtures because arbitrage wasn’t wide enough, other market sources told ICIS news on Tuesday of this week.

However, unconfirmed reports from the US later in the week suggested that an above-average amount of cargoes might have been sold.

Credit outside China looks likely to remain tight.

Whereas Chinese polyolefin buyers have reportedly been asking for 60 rather than 90-day letters of credit and have been paying as much as 20% up front because local lending is so cheap, it is the reverse for everyone else.

The real and psychological damage caused by the fourth quarter inventory losses, the expectation that additional supply will sharply increase and the economic uncertainty will surely mean ex-China buyers will maintain their “hand-to-mouth” approach.

The growth outlook also looks weak, despite cheaper gasoline and consumer goods and all the stimulus packages introduced by governments around the world

Consumer spending will probably remain depressed so long as there is no sustained recovery in the overall economy.

Global polyolefins demand growth should be better in 2009 than last year.

But 2008 was exceptional because of the inventory corrections in the second half. A more useful comparison would be with 2007 – before the financial crisis really began.

Even later than 2008, however, improvements in growth are expected to be modest.

Some regional markets might even decline further. US polypropylene (PP) consumption will, for example, fall by around 3% this year from the 9% drop seen in 2008, according to consultancy Townsend Solutions.

So the answer is to make money while you can while preparing for some more very difficult months.

($1 = CNY6.85)

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By: John Richardson
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