INSIGHT: Growing concerns about flat China polyolefins demand

03 June 2011 15:52  [Source: ICIS news]

By John Richardson

PERTH (ICIS news)--Anxiety is growing across the global polyolefins industry about whether the China market will show any recovery in 2011.

Polyethylene (PE) demand is estimated to have increased by 13% to 17.4m tonnes in 2010 and PP was up by 6%, according to industry sources. The country’s PE demand has grown by an incredible 53% over the past two years, estimates Paul Hodges, chairman of UK-based chemicals consultancy International eChem.

The wonderful benefit of hindsight has led a few players to admit that this level of growth - which appears to have to continued into early 2011 - was unsustainable.

Pricing in China has been flat or declining for the past five months. This indicates a dramatic change in market conditions well before companies reported strong growth in China sales in the first quarter.

China PE prices

“We have had a fantastic last two years and the first quarter was also good,” said an Asian-based polyolefin industry executive.

“I agree with the BASF guy [Torsten Penkuhn, the head of BASF’s petrochemicals business in Asia, quoted in ICIS news ] when he said that the first quarter of this year saw a lot of pre-buying on rising oil prices and overall strong confidence in the economy. This was not just in China but elsewhere.”

However, problems specific to China are raising most concern.

“China is very worried about social unrest - for example, it was recently forced to mobilise troops in Inner Mongolia. Its number one priority, absolutely, is to get inflation below its target rate of 4%,” the source continued (the rate of inflation in April was 5.3%).

Inflation is hurting the poor more than the rich because the former spend a bigger proportion of their incomes on food - and rising food costs have been driving the surge in inflation.

The huge economic stimulus package of late 2008 has also widened the gap between the haves and the have nots through, for instance, increases in property prices.

Those in the pessimists’ camp believe it will take at least the rest of this year for China to bring inflation below its target - meaning more credit-tightening measures that have reduced the availability of trade finance.

This has particularly affected the small- and medium-sized companies which make most of China’s plastics conversion industry. Converters are reported to be running at operating rates of below 70% or have been forced to shut down.

Power shortages, which this year are expected to be the worst since 2004, are another drag on industrial production.

Non-residential electricity prices were increased this week in an effort to encourage loss-making coal-based generators to run harder. The increases are, however, expected to add to inflation.

Incredibly, the pessimists, or maybe the realists, are predicting flat PE and PP demand growth in China this year. Such estimates are supported by a fall in imports over the past two months.

“All the signs are pointing in the direction of a flat year for China PE demand,” added Hodges.

“Actual consumption, excluding inventory stock-build, appears to have been down in the first quarter versus 2010, and since then more tightening measures have been introduced by the government.”

PE inventories at the trader level (in the bonded warehouses) and at the converter level are still said to be high.

Converters are, for example, reported to have bought as much as two months’ worth of low-density polyethylene (LDPE) stocks compared with the usual 3-4 weeks.

They were convinced by the argument that the polymer would remain expensive for another two years, but LDPE prices - along with those for other grades - have started to fall.

Traders are continuing to re-export in an effort to rebalance the local market, say several sources.

In a declining oil-price environment this makes a lot of sense. The traders are sitting on high-cost stocks when pricing in Europe and elsewhere is higher than in China. This provides an opportunity to minimise losses, or even make a profit.

But this extended re-export trade, now five months in duration (as long as pricing has remained flat or in decline), indicates just how weak demand must be.

The weakness in demand is thrown into further relief by widespread reports of cuts in cracker operating rates by Sinopec in order to deal with gasoline and diesel shortages.

A much-feared increase in Saudi polyolefin production, on greater availability of associated gas, has also not occurred.

This is also the Asian cracker turnaround season, albeit the tail-end, although an industry observer said: “I hear that several of the Asian cracker operators under maintenance are in no rush to come back.”

Rate cuts at Asian linear-low density (LLDPE) and high-density (HDPE) plants that are still running are also being predicted, unless conditions improve.

“I think by the second half of this year China will win its battle against inflation and will get below its target 4% rate,” said a source with an Indian producer on the sidelines of last week’s Asia Petrochemical Conference (APIC) in Fukuoka, Japan.

Most of the delegates interviewed agreed with this view and said that even if they were proved wrong, all that was required was to get through a tough few quarters. After that demand would recover on sound emerging-market fundamentals.

But the longer the current slump lasts, perhaps the greater danger is that the Middle East starts chasing market share by cutting prices. Producers and traders say that so far this hasn’t happened as everyone, everywhere continues to display “market discipline”.

A further problem might be that if crude suffers further declines, the Middle East might increase output to address the slide. This would lead to more associated gas availability and maybe more polyolefin exports from the region.

“I think we can expect an additional 10-15% fall in commodity prices over the rest of this year,” added the source with the Asian polyolefin producer.

Let’s put this into context. The past ten years, barring the brief interruption of the financial crisis, have been very good for the industry. A few bad quarters in China should not mean the end of the world for those used to handling downturns.

But a valid question to ask, after such an extended upswing, is: “Who in your company has been around long enough to have the experience to deal with a downturn?”

Bookmark John Richardson and Malini Hariharan’s Asian Chemical Connections blog
Read Paul Hodges’ Chemicals & the Economy blog

By: John Richardson
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